There are so many ways to borrow that it can be easy to overlook even the most common of terms. Secured borrowing is a very general term and could cover many types of lending from mortgages to pawnbroking. The general theme is that you provide collateral which the creditor can sell to recover their costs in case of non-payment of the loan.
Secured borrowing covers a wide variety of loans. Some of the most common types of secured loans include:
The money you borrow from the car finance is secured against the vehicle, so if you fail to make the repayments then the car or van may be recovered by the lender.
It’s easy to overlook mortgages when thinking of different types of loans because they are so common, but when you take out a mortgage, you have to make monthly loan repayments. If you miss the repayments, the bank can repossess the property and sell it to recover its costs.
Though a little old-fashioned now, a pawnshop loan is possibly the easiest way to understand how secured borrowing works. You offer an asset of value to the pawnshop, and they lend you an agreed sum in return (usually much less than the value of the asset). Assets might include expensive jewellery, a painting or even a car. You then make the agreed repayments and at the end of the loan term, the item is returned to you. If you don’t pay however, the pawnshop can sell your asset, so they aren’t out of pocket.
The above examples might help to explain how secured borrowing works, but it’s a fairly simple process. You offer collateral against a loan. You make your repayments and then the security is returned to you, or you become the owner of the asset (in the case of car finance or mortgages).
Offering security against a loan doesn’t mean the creditor will necessarily provide a bigger loan amount: the security is to mitigate the risk of non-payment, as the idea is you don’t want to lose the asset you’ve pledged. However, in some cases it means lenders can offer their loan service to a wider demographic, including those without a good credit score – similarly to guarantor loans, there is less risk of the lender losing money as there are secondary sources of repayment. Using a secured loan often means lower rates of interest too.
Usually, lenders will assess your circumstances and try various avenues of repayment arrangements before realising your collateral or repossessing your home. Recovering the costs of the loan through the security you provided is expensive for lenders and can create a bad reputation which heavily influences consumers’ choices when looking to borrow. Repossession and realisation of assets is not ideal and it’s a last resort option for lenders.
At the end of adverts for mortgages, you may hear the phrase “your house may be repossessed if you fail to keep up with your mortgage repayments”. Though repossession is a last resort for banks, they are within their legal rights to evict you and sell your house if you don’t make your repayments on time. This may be the worst of the consequences of not making your secured loan repayments, but it helps highlight just how serious it is when you miss repayments. Even if the loan is unsecured, you can still face arrears, negative impact on your credit file and in some cases, bailiffs. While your loan may not be secured, there is still legislation in place to allow some lenders to take possession of your assets if you fail to pay a loan. Again, this is a worst case scenario and happens quite rarely, but it’s still a possibility.
If you can’t make your repayments towards your loan – whether secured or unsecured – you should get in touch with your lender as soon as possible. If they can’t advise you on the next steps to take, they can signpost you to debt advice charities who will be able to assess your circumstances, while agreeing a temporary measure to help you keep your account up to date in the meantime.
Choosing a type of credit is not always a simple process. You have to consider your financial and personal circumstances and take into account the reason for your borrowing. If you only need a few hundred pounds for a week or two, or you’re looking to get a small loan with a bad credit history, it’s probably not necessary to go through the process of taking out a secured loan. However, if you want to do an extension on your house, you may want to remortgage or take out a second mortgage to finance the costs.
Lenders will conduct affordability and creditworthiness assessments to make sure the loan is affordable, and in the case of secured borrowing, they also require collateral. But this doesn’t mean you don’t share some of the responsibility when you apply for credit: you have to choose a sensible option and you have to be sure you can afford the repayments. While a lender can look at the most up to date information on your credit file and bank statements, they won’t know your future financial commitments (unless you tell them).
Ultimately, secured borrowing is just another type of credit. It comes in various shapes and sizes and often the most common types of secured loans aren’t considered as “secured” because of the way the finance is marketed, and because in some cases like car finance, you have full use of the asset during the loan term.
Not everyone likes the idea of secured borrowing for many reasons – namely that you might lose the asset if you experience long-term financial difficulty and miss several repayments. There are unsecured options available, even if you have bad credit, such as a credit line or a payday loan. Guarantor loans are also considered reasonable alternatives to secured loans. You should always do your research before applying and compare the loans first to make sure you’re getting a good deal.
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