What Are Secured Loans?

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Updated: November 21, 2024

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Secured loans are a type of loan backed by collateral or an asset that you own. This means that if you don’t repay the loan, the lender can take the asset to recover their losses. These loans typically offer lower interest rates and are easier to qualify for due to the added security for the lender.

Before applying for a secured loan, understand the full scope of what you're agreeing to. While the lower rates can be appealing, failing to repay could result in losing an asset that might have practical or sentimental value for you.

Key Takeaways

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Secured loans require collateral to back the loan, which the lender can seize if the borrower defaults.

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Common collateral used for secured loans includes real estate, vehicles, savings accounts, investments and valuable personal property.

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Secured loans come in different types, such as mortgages, auto loans, secured credit cards and secured personal loans.

How Do Secured Loans Work?

A secured loan requires the borrower to provide collateral to secure the loan. This serves as protection for the lender. Once a secured loan is issued, the lender often places a lien on the collateral, which will remain until the loan is fully paid off. A lien is a legal claim that gives the lender the authority to take possession of the asset if the borrower fails to meet the loan obligations.

For instance, with a mortgage, the home acts as collateral, and the lender holds a lien on the property. If you default, the lender can foreclose on the home. Similarly, with an auto loan, the vehicle is collateral, and the lender can repossess it if you fail to make payments.

Before finalizing a secured loan, the lender assesses the value of the collateral, reviews your financial history and determines the loan terms. Once approved, you’ll follow a repayment schedule, typically involving fixed monthly payments that cover both the principal and interest. When the loan is fully repaid, the lender removes the lien, and you own the asset outright.

What Can Be Used as Collateral for a Secured Loan?

Collateral is an asset that a borrower offers to a lender to secure a loan. It acts as a guarantee for the lender, ensuring they can recover their money if the borrower fails to repay. The value of the collateral typically needs to match or exceed the loan amount.

Using collateral can help borrowers access loans with lower interest rates and better terms. Some of the common assets that can be offered as collateral for a secured loan include:

  • Real estate (homes or land)
  • Vehicles (cars, motorcycles, boats)
  • Savings accounts or certificates of deposit (CDs)
  • Investment accounts (stocks, bonds)
  • Valuable personal property (jewelry, art, collectibles)
  • Equipment or machinery (for business loans)

Each type of collateral has its own requirements and risks, and borrowers should choose one that fits their financial situation and ability to repay the loan.

Types of Secured Loans

Secured loans come in various forms, each designed to meet specific financial needs. They all require collateral, which provides the lender with security in case the borrower defaults. Below are some common types of secured loans, each with its own purpose and requirements.

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MORTGAGES

A mortgage is a secured loan used to buy a home, where the property serves as collateral. The lender holds a lien on the home until the borrower repays the loan in full. Mortgages typically have repayment terms ranging from 15 to 30 years and can offer either fixed or variable interest rates. If the borrower defaults, the lender can foreclose on the property and sell it to recover the outstanding balance. Mortgages usually require a down payment, steady income and a good credit score to qualify for favorable terms.

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HOME EQUITY LOANS AND LINES OF CREDIT

These loans allow homeowners to borrow against the equity they’ve built in their homes. A home equity loan offers a lump sum with fixed payments and interest, while a home equity line of credit (HELOC) works like a revolving line of credit with variable rates. Both use the home as collateral, so failure to repay can lead to foreclosure. These loans are often used for major expenses like home improvements or debt consolidation. Qualification depends on the home’s equity, the borrower’s creditworthiness and the ability to repay the loan.

Interest on a home equity line of credit (HELOC) is tax-deductible if the loan is secured by your primary or second home. To qualify for the deduction, the HELOC funds must be used to buy, build, or substantially improve the home that secures the loan.

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AUTO LOANS

Auto loans help borrowers purchase vehicles, with the vehicle serving as collateral. Loan terms generally range from three to seven years, with fixed interest rates. The lender holds the vehicle’s title until the loan is fully repaid. If the borrower defaults, the lender can repossess the car to recover their losses. Auto loans are widely available and easier to qualify for due to the tangible collateral. Borrowers with good credit scores typically secure better rates, while those with lower scores may face higher interest rates and shorter loan terms.

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SECURED CREDIT CARDS

Secured credit cards require a cash deposit as collateral, which usually equals the card’s credit limit. These cards are primarily used by individuals with poor or limited credit history to build or rebuild credit. The cardholder makes purchases and payments just like with a traditional credit card, but the deposit protects the lender in case of default. If the borrower fails to pay, the issuer can use the deposit to cover the balance. Secured credit cards often transition to unsecured cards after you've demonstrated responsible use over time.

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SECURED PERSONAL LOANS

Secured personal loans can be used for various personal needs, such as paying off medical bills, consolidating debt or financing large purchases. The borrower offers an asset like a vehicle, savings account or other valuable property as collateral. If the borrower defaults, the lender can seize the asset to recover the loan amount. These loans typically offer lower interest rates and more flexible terms than unsecured personal loans, but they carry the risk of losing the collateral if the borrower cannot meet repayment obligations.

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LAND LOANS

Land loans finance the purchase of undeveloped land, which serves as collateral. These loans are considered riskier because land does not generate income or provide immediate use, like a house. As a result, lenders may charge higher interest rates and require larger down payments. Borrowers typically use land loans to buy property for future construction or investment. The terms of land loans vary based on factors like the type of land, its intended use and the borrower’s financial stability. Failure to repay can result in the lender seizing the land.

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BUSINESS LOANS

Secured business loans are commonly used for expansion, equipment upgrades or stabilizing cash flow. Business assets, including real estate, machinery or accounts receivable, act as collateral. If the business defaults, the lender can seize these assets to recover the loan. These loans typically offer lower interest rates and larger loan amounts than unsecured options. To qualify, borrowers must demonstrate strong financial records, good credit and the ability to repay the loan.

CONSIDER YOUR LOAN-TO-VALUE (LTV) RATIO

When securing a loan with an asset, lenders typically apply a loan-to-value (LTV) ratio, which measures the loan size relative to the asset’s value. For assets such as vehicles or land, lenders might only allow a lower LTV, which means you’ll need more equity or a larger down payment to secure the loan. — Alvin Yam, CFP

Secured Loans vs. Unsecured Loans

If you're choosing between secured vs. unsecured loans, understanding how they differ can help you make the right decision. Secured loans require you to provide collateral, such as a house or car, which the lender can take if you default. Because of this security, secured loans usually offer lower interest rates and allow you to borrow larger amounts.

In contrast, unsecured loans don’t require collateral and rely solely on your credit and financial history. This makes unsecured loans more accessible to those with strong credit, but they often come with higher interest rates and smaller loan limits.

Secured Loans
Unsecured Loans

Collateral requirement

An asset you own, like your house, vehicle or savings

None

Interest rates

Lower interest rates

Higher interest rates

Loan amount

Based on the value of your collateral

Based on your creditworthiness and income

Default consequence

Loss of collateral

Damage to your credit or debt collection

Common examples

Mortgages, auto loans, secured credit cards

Personal loans, credit cards, student loans

Pros and Cons of Secured Loans

Secured loans offer both advantages and disadvantages that should be carefully considered before pursuing an application. By understanding them, you can decide if a secured loan is the right choice for your financial situation.

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Pros
  • Lower interest rates: Secured loans usually have lower interest rates because the lender has collateral to back the loan. This can save you money over time compared to unsecured loans.
  • Larger loan amounts: Lenders may offer larger loan amounts with secured loans since they have the added security of collateral. This makes them ideal for bigger purchases, such as homes or cars.
  • Easier approval: Secured loans are often easier to get approved for, even with lower credit scores, because the lender has less risk due to the collateral. This makes them accessible to more borrowers.
  • Flexible terms: Secured loans often come with more flexible repayment terms, allowing borrowers to adjust based on their financial needs. This flexibility can help make monthly payments more manageable.
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Cons
  • Risk of losing collateral: If you default on a secured loan, the lender can seize your collateral, such as your home or car. This puts your assets at risk if you cannot meet the payment terms.
  • Potential for higher fees: Secured loans may come with additional fees for appraisals, lien filing or insurance. These fees can add to the cost of borrowing.
  • Longer approval process: The approval process can take longer since lenders must verify the value of your collateral, which may involve appraisals and additional paperwork. This can delay access to funds.

Where to Find Secured Loans

Understanding where to find secured loans can help you explore your options and choose a lender that fits your financial needs.

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    Banks

    Banks are a common source of secured loans, offering options like mortgages, auto loans and personal loans. They typically have more stringent credit requirements, but established customers may get better rates and terms.

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    Credit Unions

    Credit unions are member-owned financial institutions that often provide secured loans with competitive rates and personalized service. They tend to be more flexible with approval criteria, especially for existing members. Credit unions may offer lower fees and better terms compared to traditional banks.

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    Online Lenders

    Online lenders have become a popular option for secured loans, offering faster approval and less paperwork. These lenders may specialize in specific types of loans, such as secured personal loans or auto loans. However, they often require a strong credit history to qualify for the best rates.

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    Specialized Finance Companies

    Specialized finance companies focus on certain types of secured loans, like auto loans or business equipment financing. They may offer more flexible terms for borrowers with less-than-perfect credit but often charge higher interest rates. These companies are useful for borrowers seeking financing for specific purposes that other lenders may not cover.

How to Apply for a Secured Loan

Applying for a secured loan requires preparation to ensure you meet the lender’s requirements and get the best terms possible. By knowing the steps, you can navigate the secured loan application process more easily and improve your chances of approval.

  1. 1
    Know your credit score

    Check your credit score before applying, as it influences the interest rate and terms you may qualify for. Even though secured loans rely on collateral, your credit score still plays a role in the approval process. Understanding your score helps you set realistic expectations for your loan terms.

  2. 2
    Consider your collateral

    Choose an asset to use as collateral that meets the lender's requirements, whether it’s a house, car or savings account. The value of the collateral should generally match or exceed the loan amount. Ensure you're comfortable with the potential risk of losing this asset if you default on the loan. Also, keep in mind the risk of collateral depreciation. For example, in an auto loan, the car’s value may decrease faster than the loan balance, potentially leaving you in a situation where your collateral is worth less than the loan.

  3. 3
    Shop around for lenders

    Compare multiple lenders to find the best rates and terms for your secured loan. Look at banks, credit unions, online lenders and finance companies to understand your options. Shopping around helps you avoid higher interest rates or unnecessary fees.

  4. 4
    Gather necessary documentation

    Prepare the required documents, such as proof of income, credit reports and details about the collateral. Lenders will also need identification, financial statements and information about the asset you’re using as security. Having these documents ready speeds up the application process.

  5. 5
    Submit an application

    Once you've chosen a lender and gathered your documents, submit your loan application. The lender will review your financial situation, assess your collateral and verify your credit. After approval, you’ll receive the loan terms and can proceed with signing the agreement and receiving the funds.

What Happens if You Default on a Secured Loan?

If you default on a secured loan, the lender has the right to seize the asset you used as collateral. This means that for a mortgage, the lender can foreclose on your home, and for an auto loan, the lender can repossess your car.

In addition to losing your collateral, defaulting can severely impact your credit score, making it more difficult to secure future loans or credit. You may also face legal action if the sale of the collateral doesn’t cover the remaining loan balance.

To avoid defaulting on a secured loan, stay proactive and manage your finances responsibly. Here are some strategies that can help you stay on track:

  • Create a budget: Track your income and expenses to ensure you have enough funds to make loan payments on time.

  • Set up automatic payments: Enroll in automatic payments to avoid missing due dates and incurring late fees.

  • Contact your lender early: If you're struggling to make payments, reach out to your lender to discuss possible options, like a loan modification or temporary payment relief.

  • Prioritize loan payments: Make your loan payments a priority in your budget to avoid the consequences of default.

  • Seek credit counseling: If you're having trouble managing your debt, a credit counselor can help you develop a plan to stay current on your loan payments and manage your overall financial health.

FAQ About Secured Loans

Here are some other frequently asked questions about secured loans to help you determine if this is the right option for you.

What is the difference between a secured loan and an unsecured loan?
What types of assets can be used as collateral?
How do interest rates for secured loans compare to unsecured loans?
Can I get a secured loan with bad credit?
How do I choose the right collateral for a secured loan?
Can I borrow more money with a secured loan?
What are some common uses for secured loans?

About Zachary Romeo, CBCA

Zachary Romeo, CBCA headshot

Zachary Romeo is a certified Commercial Banking and Credit Analyst (CBCA), and the Head of Loans and Banking at MoneyGeek. Previously, he led production teams for some of the largest online informational resources in higher education, with over 13 years of experience in editorial production.

Romeo has a bachelor's degree in biological engineering from Cornell University. He geeks out on minimizing personal debt and helping others do the same through people-first content.

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The content on this page is accurate as of the posting/last updated date; however, some of the rates mentioned may have changed. We recommend visiting the lender's website for the most up-to-date information available.

Editorial Disclosure: Opinions, reviews, analyses and recommendations are the author’s alone and have not been reviewed, endorsed or approved by any bank, lender or other entity. Learn more about our editorial policies and expert editorial team.

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