HOW DOES A LOAN WITH COLLATERAL WORK?
Collateral is an asset that a customer offers to a financial institution or lender to secure their loan and get a good deal.
When you borrow money with collateral for security you sign an agreement that allows the lender to sell your collateral if you fail to make the repayments.
Collateral helps when applying for large loans like a mortgage or car loan as it offers the lender security that they will be able to recoup costs from if you fail to meet the repayments.
If you apply for a collateral loan or also known as a secured loan you are more likely to get a good interest rate as there is less risk involved for the lender.
Often lenders will ask for collateral if you don’t have great credit history or mostly when it is a large loan. However, again if you fail to make the required repayments the lender can sell the asset or collateral to pay out the loan.
Lenders are more inclined to approve a collateral or secured loan compared to an unsecured loan as it is very hard for them to re-coup the loan amount from an individual who may no longer have the money.
The lender has to go through legal proceedings to get their loan repaid by an individual or give you a bad credit rating. Which still leaves them without their loan repaid.
Lenders would above all just like to have their loans repaid. This is why collateral or secured loans are so popular, lenders would prefer to have their loan repaid rather than having to sell collateral to re-pay the loan.
So if you do have trouble repaying your loan it is important that you speak to your lender as soon as possible to negotiate a plan.
WHAT WILL LENDERS ACCEPT AS COLLATERAL?
Lenders really only want to use items for collateral that they can turn into cash easily.
What are some acceptable forms of collateral:
- Cash accounts
- Machinery and equipment
- Valuables eg jewellery
DO YOU GET THE SAME AMOUNT FOR YOUR LOAN AS THE VALUE OF YOUR ASSET?
Generally the lender will offer you less than the value of your asset. This way they increase their chances of getting their loan back if you default on your repayments.
If your asset looses value for any reason then they will still be able to comfortably sell your assets to recoup their money’s owed.
If the lender (bank) does take your collateral and sells it and does not receive enough money for the debt owed you will still be responsible for the remaining debt.
WHO USES COLLATERAL LOANS?
Collateral loans are quite common among new businesses, people with bad credit ratings and most popularly home loans.
New business’s often get rejected by lenders because they do not have a long track record of operating. Quite often new business owners will put an asset up as collateral or take out a collateral loan to secure finance for their new business.
People with bad credit will often be required to have a collateral or secured loan because of their past failures to repay a loan.
These loans can often be charged at a higher interest rate and should only be used as a last resort.
Home loans are probably one of the most popular form of a secured loan. The lender/bank has the right to foreclose or sell your home if you fail to make repayments. However they feel very with these loans because they know where the asset is and it can’t be moved!
Therefore, there are definitely some pro’s and con’s when it comes to secured loans. You are more likely to get a better deal and more money with a secured loan, however the bank has full rights to repossess it if you fail to make the repayments.
The thing to keep in mind is to ensure you can meet the repayments and your secured loan will be fine!