Secured or Unsecured?
Many newcomers to personal finance find themselves in trouble with credit card debt and loans. They try to find ways around debt, often declaring bankruptcy to get out of paying them. Other times, people try to ignore the problems, hoping they will simply go away. Ignoring debt and credit problems is not a solution. Instead, it is important to prevent problems by understanding how loans and credit work.
When you borrow money, from either a bank or a credit card lender, there are two ways to do so. The first way is known as a secured loan which is when you put down collateral for your debt. If you fail to pay this loan, your collateral, often your home or car, is taken from you. The other loan type is known as an unsecured loan. For this type of loan, there is no collateral securing the debt. The most common type of unsecured loan is credit card debt. Credit card companies offer loans of a certain amount of money made available to the lendee. The lendee takes advantage of this loan by using the card issued by the company to charge against a set credit amount issued. If the lendee fails to make payment on the loan, the credit card company has a few options when trying to collect. They will raise interest rates, lower the lendee’s credit rating and, in extreme cases, send a collection agency after the lendee or take him or her to court in order to collect the money owed.
Which loan type is better? It depends on the need. A secure loan will have lower interest rates, and the lendee pay less money over the course of the debt. Credit cards and other unsecured debt tend have very high interest rates. Unsecured debt can lead to problems as a lendee does not always have to prove they can pay the full amount before making use of it. The lendee can then spend years paying back the cost under higher interest rates. Unsecured loans will also often have variable interest rates instead of the lower, fixed interest rates offered by secured loans.
Why would anyone take an unsecured loan? Generally people with no collateral or who have poor credit histories have no choice other than unsecured debt and loans. If someone does not have the collateral to secure a loan they are going to have no choice other than to pay for an unsecured debt. The good news is, paying back the debt in a timely manner will help restore a potentially poor credit history and help with potential future loans.
Secured loans are an easy way to put the equity to work. They are also common for car purchases or for purchasing a home. For these more expensive purchases, it is unlikely a buyer will be able to make the purchase of the full amount without the loan. A secured loan will have a lower interest rate and better payment terms than an unsecured loan. The downside is if the loan is not paid back in a prompt manner, the collateral can be lost. If the loan is for a risky venture, then it might be better to take unsecured debt.
There are pros and cons to both types of loan, and which type is best relies on many factors personal to the potential lendee. Whichever type of loan is chosen ought to be done with due diligence. Taking any kind of debt which can not ultimately be repaid will have negative effects on credit histories. As such, it is important to be careful when taking out any sort of potentially unnecessary loan. Even credit card purchases should be considered carefully. If credit card payments are not affordable, then perhaps that new television is not as necessary as first thought.
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