Comparing Signature Loans to Secured Loans

Signature loans offer great flexibility but can be difficult to get. Secured loans can have very competitive interest rates. The information below compares the two types of lending.

Ground Rules for Loans

Understanding the pros and cons of signature loans compared to secured loans requires knowing how loans are structured. All loans have risk associated with them for the lender. Their money is in your hands. The higher the risk of the loan, the higher the interest rate charged and the more restrictive the terms. If you have poor credit history you can expect to pay higher interest rates when borrowing. If you have poor credit history but great collateral you will pay lower interest rates because the lender’s risk is lower.

Signature Loans Explained

The term “signature loan” comes from the fact that a lender makes you a loan with nothing more than your signature on the loan documents. You do not put up any collateral to back the loan. Collateral is a tangible asset you pledge to give the lender if you don’t pay the loan. A house is collateral for a home mortgage. A car is collateral for an auto loan. You can also pledge bank accounts, jewelry, just about anything that has value. 

Signature loans typically are made to individuals and in relatively small amounts, up to $10,000. The better your credit, the more you can borrow.

Benefits and Drawbacks

A primary benefit of signature loans is the flexibility it gives you. Being able to borrow with nothing more than your name on a document allows you to quickly borrow funds and put them to whatever use you need.

However, the drawbacks include how difficult signature loans can be to get. Even if you have a relationship with a lender, you need very strong credit history and financials to be able to borrow money with no collateral. 

You can get signature loans with spotty credit, but the interest rate will be very high; the loan terms will be restrictive, meaning the payback period will be short; and the late-payment penalties will likely be included.

Secured Loans Explained

As opposed to a signature loan where you sign documents and get money, a secured loan has collateral backing it up. Any collateralized loan is secured, such as a home, auto or boat loan. But the term “secured loan” usually means a loan of about the same size as a signature loan for which you pledge some other asset, perhaps a bank account, home equity or your car, if it has no note. You cannot pledge a tax-deferred retirement account as collateral.

Benefits and Drawbacks

With a secured loan, the lender’s risk is reduced and you can be offered a better interest rate. Even if you have poor credit, the collateral of a secured loan will get you a better rate than otherwise would have been offered.

Drawbacks include that same collateral requirement. Often, the fact that you need to borrow  means you don’t have cash to pledge as a collateral, and most people already have loans against homes and cars.

 


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