May 16, 2021

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What Is A Loan? | Smart Change: Personal Finance

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Types of Loans

In general, a loan may be secured or unsecured, meaning that you may be required to pledge a valuable asset to collateralize the loan. Likewise, loans may be classified as revolving, if funds can be accessed on a revolving, as-needed basis; or term, where the loan is disbursed in a lump sum and repaid over a set period of time.

Secured vs. Unsecured Loans

Secured loans are collateralized by something of value—like a home or vehicle. If the borrower defaults on the loan, the lender can foreclose, repossess or otherwise seize the collateral to recoup the outstanding loan balance. Because these loans pose less risk to lenders, they are typically characterized by lower interest rates.

Auto loans and home mortgages are common examples of secured loans, but lenders may also extend personal loans secured by assets like a savings account, certificate of deposit or vehicle.

Unsecured loans, on the other hand, do not require the borrower to pledge any collateral. Here, the lender cannot seize underlying assets in the case of borrower default. For that reason, interest rates tend to be higher and qualification requirements more stringent. Common examples of unsecured loans include credit cards, student loans and most personal loans.