Secured vs Unsecured Loans Explained
Secured loans require you to put forward some form of security, or collateral, which unsecured loans don’t need. Find out more about the differences between secured and unsecured loans.
All types of loan are either unsecured or secured. If you want to apply for finance, it is important to understand the differences between a secured and unsecured loan as they can be used for different purposes and come with different levels of risk.
Read on to find out the main features of secured and unsecured loans and when you might choose to apply for them.
Unsecured loans, also called personal loans, are the simplest form of lending. You borrow money from a lender at a set rate of interest, and pay back the amount owed in monthly instalments over the agreed period of time.
You can typically borrow up to £25,000 with an unsecured loan and terms usually range from one to seven years, although some lenders will offer longer terms and allow you to borrow more.
The interest rate and monthly payments usually remain fixed for the duration of the loan.
» MORE: What is an unsecured loan?
When you apply for an unsecured loan, lenders will base their decision on your credit score and your overall financial situation. They only have your previous credit history to assure them that you will repay the loan, with no property acting as security that they could reclaim if you defaulted. This means unsecured loans pose a higher risk to lenders and, as a result, interest rates for unsecured loans can be relatively high unless you have an excellent credit score.
If you can’t repay an unsecured loan, your property is not directly at risk as it has not been used as security for the loan. However, your credit score would still be affected and you could face court action.
Unsecured loans are available from high street and challenger banks, as well as online lenders.
Even though it may not be the cheapest option, unsecured personal loans can be used to fund large-ticket items – for example, cars, appliances, home improvements, holidays and major life events, such as weddings.
» COMPARE: Unsecured loan rate and deals
Secured loans are very different from unsecured loans as lenders will require an asset of yours as security, just in case you don’t repay the loan. If you default on a secured loan, lenders are within their rights to repossess the property you put forward as security so they can recoup the money they are owed.
While many secured loans use your home as security, they can also be secured against cars, jewellery, and other items of value.
As lenders have this security as back-up, secured loans are considered less of a risk for them compared to unsecured loans. As a result, you can normally borrow large sums – up to £100,000 or even higher – over longer periods, potentially at lower interest rates. But it is important to remember that if you are repaying the loan over a longer timeframe, it will affect the overall interest you pay.
Secured loans come with greater risk to the borrower, so you could lose the asset the loan is secured against if you fall behind on payments.
If a loan is secured against your property, you can expect a much more detailed application process and possibly some expensive arrangement fees, just as you might find when you apply for a mortgage.
» MORE: What is a secured loan?
Secured loan examples
Some examples of secured finance that you may come across include:
- Homeowner loans, or second charge mortgages
- Car finance
Secured loans will often be used to buy a house or pay for renovations and home improvements. They may also be used to consolidate existing debts to make the repayment schedule more manageable. Consolidating debts is not a decision to be taken lightly and you may pay back more over the long term, even if you reduce your monthly repayments.
» COMPARE: Secured loan calculator
Key differences between secured and unsecured loans
|Unsecured loans||Secured loans|
|They don’t require any form of security, so there is more risk for the lender.||They require some form of security, such as a house or vehicle, so there is more risk for the borrower.|
|Limited loan amounts are available.||You can borrow larger sums of money.|
|Loan terms are typically up to seven years.||Lenders can offer longer loan terms.|
|They usually have fixed interest rates and monthly payments.||They may have variable interest rates, so monthly payments may change.|
|The best interest rates are reserved for those with the best credit scores; interest rates for other applicants can be high.||They can offer lower interest rates compared to unsecured loans, especially to those with poorer credit scores.|
|There are low or no set-up costs.||This type of loan can be expensive to arrange.|
|You can often receive funds relatively quickly.||It may take longer for the loan to be approved.|
|You don’t need to be a homeowner or own an asset to qualify for a loan.||Only people who own enough equity in their homes, or have another valuable asset, are eligible.|
|Failing to repay the loan will harm your credit score, but your home/assets won’t be at risk, unless court action is taken against you.||Failing to repay the loan could result in the lender repossessing your home, or the asset used as security.|
Should I get a secured or unsecured loan?
The question of whether you should apply for a secured or unsecured loan is up to you and depends on your individual circumstances. Generally, unsecured loans could be a better option if you have a good credit score and only need to borrow a small amount of money.
You might want to consider a secured loan if you need to borrow a large sum of money and you can get a better rate of interest than on an unsecured loan. However, you have to be prepared to put your assets at risk if you choose this option.
To help you decide which loan is most suitable, you will need to think about how much you want to borrow, how long you’ll need to repay the loan, your financial situation, and your credit score. You can then compare both secured and unsecured loans to see which deals you qualify for, making sure you look at the total cost of borrowing, not just the interest rate.
Take steps to prepare your information before making a loan application and ensure that you have checked your credit score in advance. Making unsuccessful loan applications can have a damaging impact on your credit score, making it even more difficult to secure a loan in the future.
If necessary, try to improve your credit score before applying for a loan as this will help your application and could help you to access more competitive rates of interest.
» COMPARE: Loan options
WARNING: Think carefully before securing debts against your home. Your home may be repossessed if you do not keep up with repayments.
Caroline Ramsey is a content creator who specialises in personal finance. More than a decade of working in editorial teams, she offers highly tailored content covering a number of topics. Read more
Rhiannon is a financial writer for NerdWallet, with a particular interest in personal finance and insurance guides for consumers. Read more