Loans are a vital financial instrument for achieving a variety of life goals. Because of the varying reasons and ways in which someone borrows money, there are several different types of loans available. Understanding the differences between these various lending options will be key in deciding which is the right one for your specific situation.
Let’s take a closer look at the differences between multiple types of loans:
Secured versus unsecured
The primary distinction between one type of loan and another is whether it’s secured or unsecured. A secured loan is something tied to collateral of some kind. Oftentimes it’s the property getting purchased. Unsecured loans are those that lack any kind of collateral.
For example, a personal loan in San Angelo is unsecured, but a title loan there would be secured. That’s because personal loans usually lack any asset the lender can reclaim if the debt goes unpaid, whereas title loans give the lender the right to take possession of the borrower’s car if they aren’t paid back.
Let’s take a look at a few more examples:
Examples of secured loans
Most car buyers today use financing to purchase new vehicles. Companies are willing to approve these types of loans because they can count on repossessing the vehicle if the borrower stops making payments. In essence, the loan is “secured” by the value of the vehicle being financed.
Similar to vehicle financing, home loans hinge mostly on the value of the property being purchased. Banks can count on the home value to recoup any losses due to foreclosure.
Virtually any property or asset of significant value can be turned into collateral for a secured loan. Jewelry, savings, and instruments such as bonds can become subject to seizure by creditors if listed as collateral and the loan goes unpaid.
Examples of unsecured loans
Access to student loans is essential for enabling more people to attend college. These loans require no collateral, yet can grow to tens or even hundreds of thousands of dollars. That’s because, despite being unsecured, student loans are exempt from bankruptcy rulings. In other words, they figure they’ll get their money one way or another.
While similar to personal loans offered by banks, installment loans tend to be made available to a broader range of consumers. The requirements are looser, but the interest rates tend to be higher. However, both involve no collateral for approval.
Though credit cards are technically their own type of financial instrument, lines of credit still function like loans. You borrow money every time you charge your credit card, payment is due every month, and the longer it takes to pay off the debt, the more you pay in interest. Lastly, a line of credit is unsecured, similar to a personal loan from a bank or installment loan from an alternative lender.
Almost everyone will utilize at least one loan at some point in their lives. Chances are, they’ll utilize multiple types of loans. Whether it’s to buy a house, buy a car, earn an education, or renovate the upstairs bathroom, loans of all kinds are vital for achieving a similarly diverse spread of goals.