August 13, 2024

Secured vs. Unsecured Loans: Understand Your Choices

If you’re shopping for personal loans, you’ll discover two primary categories: secured and unsecured personal loans. Both are traditional loans, meaning you’ll be given funds upfront with the agreement to pay them back later in installments.

But just like there are advantages and disadvantages to credit cards, there are also pros and cons to different loan types.

We’ll compare secured versus unsecured loan options so you can make smarter choices when borrowing money. You’ll be able to choose the right loan for your situation and know exactly where you stand with your lender.

What is a secured loan?

A secured loan, or secured debt, requires the borrower to put up collateral for the funds, usually in the form of an asset (e.g. a vehicle or property). If the borrower defaults — meaning they don’t pay the monthly amount owed on time — the lender can seize the borrower’s collateral to recuperate the lost funds.

Common examples of secured debt include a home mortgage, auto loan, or business loan. The item being financed or purchased is typically used as the collateral. If you miss too many payments or default on the loan, the loan issuer claims the item.

Home equity loans or a home equity line of credit (HELOC) are common forms of secured debt, where the collateral, or loan backing, is the borrower’s home.

Pros of secured loans

Lower interest rates or bank rates
More likely to be approved
Higher borrowing limits

Cons of secured loans

Potential loss of collateral
Damage to your credit if you default
Restrictions on how you can spend the money

What is a secured credit card?

Most credit cards operate on unsecured debt with no collateral. Approval for an unsecured credit card relies on a solid credit history.

However, most major lenders offer special, secured credit cards so people with lower credit scores can borrow money and build their credit. A secured credit card holder deposits funds into the account as collateral. That amount becomes the credit card’s borrowing limit.

What is an unsecured loan?

If a loan doesn’t require collateral, it’s considered an unsecured loan, meaning the lender must take legal action to recover expenses If the borrower defaults.

Because it’s a riskier loan, the lender will more carefully consider a borrower’s creditworthiness. You must have good credit and a visible history of on-time and good-faith payments.

Banks and other lenders typically charge a higher interest rate on these loans to offset the risk.
Lenders also determine a borrower's eligibility by reviewing their debt-to-income ratio. No matter how much you make, lenders will only offer unsecured loans if the amount of debt you have aligns with your income range.

Examples of unsecured debt include medical bills, student loans, and most credit cards or lines of credit. Debit card use is not considered debt, an important distinction when considering debit versus credit.

Pros of unsecured loans

No collateral required
No risk of asset seizure
More flexibility to spend the money

Cons of unsecured loans

Harder to qualify for
Higher bank rates, fees, and interest rates
Severe credit damage if not repaid

Differences between secured and unsecured loans

The primary difference between secured and unsecured loans is whether they require collateral. But other elements like risk, interest rates, and more also factor in.

Here are the biggest differences between secured and unsecured loans:

Collateral

You must put up collateral before you're approved for a secured loan. When the loan is used for a major purchase, the purchased item is often the collateral. For instance, a mortgage or home loan would use the property and residence.

Interest rates

Interest rates are typically higher on riskier loans, so unsecured loans may often cost more over the long term.

Borrowing limits

Unsecured loans without collateral backing have lower borrowing limits. That said, limits are generally based on your credit score and history, so you may see higher limits if you have a favorable credit report.

Secured loans have higher borrowing limits and fewer restrictions.

Spending limitations

With a secured loan, there are restrictions on what you can use the funds for. Unsecured loans — namely credit lines — can be used to pay for a broader array of goods and services. Both types still restrict certain things, like cash withdrawals.

Approval odds

Every borrower needs a good credit score, but its weight can vary. A lender is less likely to approve a borrower with a low credit score for an unsecured debt option. Secured loans are more relaxed and may have higher odds of approval because of the collateral tied to the account.

With online and mobile banking, the application process is safe and streamlined for both loan types.

Secured vs. unsecured loans: Which one should you get?

The best loan type depends on your needs. Some borrowers may prefer unsecured debt since secured debt can require putting up some form of collateral. Others may seek secured loans for their lower interest rates.

If you’re weighing secured versus unsecured debt, consider these factors:

Your credit score. Unsecured personal loans may be off the table if you don’t have a good credit score.
Interest rates. Higher rates and longer repayment plans will end up costing you more in the long run.
Collateral. Defaulting on your loan can always be a risk. Consider whether you can afford to give up the requested collateral for a secured loan.

Whichever type of loan you choose, the borrower is on the hook for the money. Lenders can initiate a lawsuit to recover fees and costs, and the borrower may pay far more than the initial debt in legal and court costs. EarnIn’s free personal loan calculator can help you explore loan options and estimate costs.

Avoid taking on debt with EarnIn

No matter the type, loans, credit bills, and other expenses must be paid on time. Missed payments can have costly consequences — not to mention its impact on your credit score. To avoid taking on new debt, consider using online tools like mortgage loan calculators and auto loan payoff calculators to assess your financial situation and potential payments before committing to a loan.

Fortunately, EarnIn offers access to your hard-earned money as you work and can avoid costly options, like taking a cash advance or overdrafting your account.

The EarnIn app offers a variety of tools to give you options with the money you’ve earned. Our Cash Out tool lets you access your pay as you work — up to $150 a day and up to $750 every pay period — so you can keep moving forward without getting stuck in more debt.

Download the EarnIn app today and experience money at the speed of you.

Please note, the material collected in this post is for informational purposes only and is not intended to be relied upon as or construed as advice regarding any specific circumstances. Nor is it an endorsement of any organization or services.

1. Subject to your available earnings, Daily Max and Pay Period Max. EarnIn does not charge interest on Cash Outs. EarnIn does not charge hidden fees for use of its services. Restrictions and/or third party fees may apply. For more info visit earnIn.com/TOS.