With lifestyle expenditures increasing year on year, most of us rely on loans to meet life’s big expenses. Whether you want to purchase your dream home, upgrade your car, grow your business, pay for your child’s college education, or renovate your home kitchen, loans help meet various cash needs. 

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Thanks to the rapid rise of digital banking, getting a loan today is quite convenient and can even be done entirely online, with just a few taps on your mobile. Loans can be broadly categorized into two different types:

• Secured Loans 
• Unsecured Loans 

Understanding the differences between these two loans goes a long way in helping you make the right financial decisions at various points in life. 

A secured loan requires borrowers to provide collateral for securing the loan. On the other hand, an unsecured loan doesn’t require collateral or a guarantee from the lender. There are pros and cons to both secured and unsecured loans. 

In this post, we highlight the key differences between these two loans so that you can decide which one to take at different stages in life. 

What is a secured loan? 

As the name implies, a secured loan is protected by collateral (an asset). The item you purchase using the loan amount – like a home or car – will be held by the lender as collateral until you repay the loan in full. Besides the item you purchase, other assets like a life insurance policy, stocks, bonds or personal property can also be pledged as collateral for secured loans. 

Secured loans are the most common type of loans, especially when borrowing large sums of money. Most lenders want a confirmation that you will be able to repay the large loan amount on time. By providing collateral, you provide the lender with the guarantee that they can recover the loaned amount if your repayment capability takes a hit. 

Secured loans are not just for new purchases. You can pledge an asset like a personal property that you own to fund your business, pay for your child’s marriage or higher education and so on. 

In a secured loan, the risk borne by the lender is minimal. In the unfortunate case you are not able to repay the loan on time; the lender can auction/sell the collateral you have pledged to recover the cost of the loan. 

Pros of Secured Loans

• Lower interest rates 
• Longer repayment tenure
• Higher loan amount 
• Tax deductions are available on certain types of loans 

Cons of Secured Loans

• The asset you pledge is on line. You risk losing the property/collateral if you cannot repay the loan on time. 

Common Types of Secured Loans 

• Home Loan – In this loan, you borrow to purchase/construct a new home. You repay the loan amount as monthly EMIs that include the principal, interest and other taxes. The home you are buying is pledged as collateral until you repay the loan. 
• Car Loan – A car loan is taken to purchase a new car. The vehicle is pledged as collateral. 
• Bike Loan – This is similar to a car loan; the only difference is that you take the loan to pay for a new two-wheeler. 
• Gold Loan – In this loan, the borrower pledges gold ornaments/coins as an asset and receives the loan amount. 

What is an unsecured loan? 

You can think of unsecured loans as the reverse of secured loans. Some of the popular unsecured loans include personal loans, education loans, credit cards, etc. Lenders are more cautious while lending unsecured loans. This is because an unsecured loan requires no asset or collateral to be pledged. Hence, the risk borne by the lender is higher. 

Now, we come to the big question – if you don’t pledge collateral or an asset, how does the lender evaluate the repayment capability of the lender? This brings us to the 5 Cs of unsecured loans. 

Lenders evaluate the repayment capacity of a borrower using the five Cs:

• Character – This includes the credit score and credit history of the borrower, along with employment history and guarantees/references 
• Capacity – This includes income and existing debts of the borrower 
• Capital – This evaluates the money you currently have in hand in savings or investment accounts 
• Collateral – Though collateral is not a must for unsecured loans, the lender may ask you to provide collateral if you don’t meet the other eligibility criteria mentioned above. 
• Conditions – This refers to the terms and conditions of the loan

Pros of Unsecured Loans

• Easy loan process and quick disbursal 
• No risk of losing your collateral 
• Less risky for the borrower
• You can use the loan amount for any purpose 

Cons of Unsecured Loans

• Higher interest rates
• Shorter repayment terms 
• Smaller loan amounts 
• Eligibility criteria are demanding 
• Requires high credit scores to qualify 

Common Types of Unsecured Loans 

• Personal Loans – These are the most popular unsecured loans. They are readily available and easy to apply. The loan amount can be used for any purpose and ranges from ten thousand rupees to lakhs. 
• Credit Cards – Credit cards are also a type of unsecured loan. They come with a pre-decided credit limit and charge interest if you do not pay the bill in full every month. 
• Personal Credit Line – Just like a credit card, banks also offer personal credit lines that come with a fixed limit. You can borrow it as and when you need it. The interest is charged only on the borrowed amount and not on the total amount available in your credit line. To get this you will need very good CPN Tradelines.
• Education Loans – Education loans help students pay for their college and higher education. While most education loans are unsecured, they require a guarantor. 

In a Nutshell: Summarising the Key Differences between Secured and Unsecured Loans 

Features	Secured Loans	Unsecured Loans
Loan Amount	High	Low
Loan Tenure	Long (Goes up to 30 years)	Short (usually for a maximum period of 3 to 5 years)
Collateral	Mandatory	Not mandatory
Interest Rates	Lower compared to unsecured loans	High
Documentation	Requires extensive paperwork	Not much paperwork
Application Process	Lengthy	Speedy
Examples	Home loans, car loans, bike loans, gold loans	Personal loans, personal line of credit, education loans, credit cards and few types of business loans

Conclusion 

Both secured and unsecured loans have their pros and cons. knowing the key differences between both and understanding the different types of secured and unsecured loans will help you make the right decision based on your situation. 

For example, if you require a considerable loan amount and can repay over a long tenure, then secured loans are the better choice. On the other hand, if you need immediate funding, then an unsecured personal loan would be the better choice. 

Finally, before you commit to any type of loan, make sure to understand the terms and conditions and make an informed choice.