Loans may seem like an easy option to grab, yet, on the outset, they can actually prove to be the most complicated. One of the difficulties of loans for a borrower is what is known as “collateral.” It is basically any property or asset that the borrower promises to the lender as a backup in return for a loan. So the lender acquires the right to take over that particular asset if the borrower fails to pay the loan on time and as per terms and conditions of the contract signed between them.
Loans with pledged collateral are called secured loans and these are needed for most consumer loans. The financial assets that can be seized or sold by the lender for cash are acceptable collateral according to them. However, the type of loan determines the type of collateral that needs to be taken.
It is a great opportunity for borrowers who have low credit scores. The collateral indicates to a massive extent that the borrower is serious about paying off the loan, knowing the consequences of not being able to do so. This reduces the risk of loss for the lender. So the chances of the loan being approved increase. They also seemingly have lower interest rates, which means that the borrower needn’t pay thousands of dollars in the long term. However, that doesn’t mean that income and job stability aren’t factors that matter as well to the lender before sanctioning a loan.
Some of the most popular collateral loans are as follows.
- Loans on automobiles and mortgages
This is the most common loan type that involves collateral, in which the asset purchased itself is the collateral. Its actual value can be determined when the collateral is appraised, which is also in the case of home mortgages. - Personal loans
Usually, borrowers have three reasons to opt for a personal loan. It could be either to finance everyday expenses or build up a certain amount of credit or consolidate existing debt. So, they come in two kinds: secured and unsecured. The only difference that lies between the two of them is that secured loans have the option of collateral. The secured ones have a lower interest rate since chances of defaulting by the borrower are much lesser. It is not just physical assets such as property or cars that can be used as collateral; there are other options such as future paychecks, savings or investments as well which are monetary. - Business loans
A growing or a small scale business often work on collateral initially. The loans are often utilized to fund office space, equipment, or hiring employees, etc. Collaterals, in this case, can be real estate, inventory and future payments by clients. In some instances, personal assets can also be given as business collateral provided the lender receives a “personal guarantee,” which is a written undertaking from the borrower that his or her assets can be seized in case of default.
