Secured vs Unsecured Loans

Whenever a person is in need of money, the first thing that comes to mind is a loan. There are many banks and financial institutions that give loans depending on various criteria like credit score, income, collateral provided and so on. The time required is very less and the formalities are extremely streamlined to increase the ease of availing loans. All that a person has to do is prove to the bank that he is able to repay the loan on time.

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Secured VS Unsecured Loans

All Loans can be broadly classified into two main categories. Depending on whether they require collateral or not, they are either Secured or Unsecured.

What is Secured Loan?

When banks require a collateral to be given for a loan, it is called a secured loan. This type of loan is typically used to purchase vehicles or other assets and requires an asset to be pledged as security for the loan. Secured loans can be taken at lower interest rates than unsecured loans, because they are perceived as less risky on account of the collateral. Credit score is not as big a factor for availing secured loans.

Types of Secured Loans

• Vehicle Loans

Vehicle loans are availed to purchase vehicles, usually cars. The lender finances the purchase and holds the vehicle ownership as collateral till the loan is repaid. If the borrower defaults in payment, the lender can sell the vehicle to recover dues.

• Home Loans

Purchase of property, land, house and so on requires a large sum of money, which can be obtained from a financial institution in the form of a home loan. The title deeds of the property must be submitted to the lender as collateral till repayment.

• Gold Loans

Gold can be pledged with a financial institution to avail loan for a specific period of time. It is one of the cheapest and easiest loans to avail. Unlike the other types of secured loans, Gold Loan requires the pledged gold to be kept with the lender till the loan is repaid.

• Secured Business Loan

Businesses can avail loans by pledging an asset, whether it is machinery or inventory, with the lender. This loan can be used to meet urgent cash requirements of the business.

• Loan against property

In this type of loan, the borrower pledges an existing residential or commercial property against the loan. The borrower can continue to use the property, but the title deeds of the property must be submitted to the lender.

What is Unsecured Loan?

Unsecured loans do not require any collateral for the loan to be approved, but take into account the credit-worthiness of the applicant. For loan seekers, this type of loan is more attractive, because should they default in repayment for any reason, there are no personal assets attached to the loan that can be confiscated, but it entails higher interest rates than secured loans. Defaulting in loan repayment will reduce the credit score of the individual, impacting future loan applications.

Types of Unsecured Loan

There are many types of unsecured loans available, depending on the need for the loan, usage, and other factors. All these loans are not attached to any collateral. Some of these are as below:

• Credit Cards

A credit card is a payment card that is issued by a financial company to a user (cardholder) for purchase of goods and services. The cardholder must pay back the borrowed amount within the due date, failing which interest will be charged. A line of credit is extended, which is a maximum limit of borrowing. The holder of the card has the option of using the entire amount or a part of it.

• Education Loans

Education Loans are offered for full-time, vocational, or part-time courses. They are available for studying in India as well as abroad. Banks finance 100% of the loan requirement if it is below Rs 4 lakhs. Anything above that will require 5% of the amount to be financed by the applicant, if he is studying in India, and 15% for studies abroad.

• Personal Loans

Personal loans are unsecured loans that can be taken for a variety of reasons. Banks generally don’t ask for any collateral to sanction a personal loan. They are also known as “All-purpose Loans” as there is no restriction on the use of the money. Personal loan can be availed for any reason like a wedding, vacation, home renovation and many others. It caters to urgent cash needs and is generally approved in quick time.

• Peer to peer loans

Peer to peer lending is a financial innovation where borrowers can avail unsecured personal loans from lenders who are seeking to earn high returns from their investments. Online platforms, registered with The Reserve Bank of India (RBI), connect the borrower and lender, and provide the lender with details on the borrower, so he can decide whether to lend or not.

• Signature Loans

The only thing required for availing a signature loan is the applicant’s signature, hence the name. The applicant’s signature serves as a promise to the lender, that the loan will be repaid in full. Repayment can be done in EMIs, and is a common tool used to boost credit score.

• Payday Loans

This type of loans are short term loans to salaried individuals, which need to be repaid once the next salary is received. The loan amount is small with high rates of interest.

• Small Business Loans

Small business loans are given to owners of businesses who have proven their proficiency in business and creditworthiness. There might be an urgent need of extra funding for a business that is doing well, so the lenders do not insist on collateral.

Eligibility Criteria

Secured Loan

The applicant must be at least 18 years old and a resident of India. Banks specify a minimum income limit that is required, which differs from bank to bank. The applicant needs to a self-employed or salaried, and earning income from business, salary, or any non-salary income. In case of self-employed applicant, he must have been in business for a minimum of 3 years. The value of collateral pledged must be equal to or more than the amount of loan.

Unsecured Loan

The applicant must have a stable and regular income. Salaried persons need to be employed for a minimum of 2 years and self-employed persons must have been in business for at least 5 years. The age of applicants must be between 21 and 65 years. The Credit Score of the individual and financial position play a major role in loan eligibility.

Documents Required

Secured Loan

• Proof of Identity – Passport, Aadhaar, Driving License, Voter ID, PAN card
• Proof of Age – Passport, Voter ID, Aadhaar, Birth Certificate
• Proof of Income – Salary Slip, Form 16 attached to salary certificate, Income Tax Returns
• Proof of Residence – Utility bill (Electricity, Water, Phone), Rental agreement, Bank account Statement
• Original documents relating to property, vehicle, business
• Bank Statement
• Company Profile and description
• Audited balance sheets

Unsecured Loan

• Proof of Identity – Passport, Aadhaar, Driving License, Voter ID, PAN card
• Proof of Residence – Utility bill (Electricity, Water, Phone), Rental agreement, Bank account Statement, Passport
• Proof of Income – Salary Slip, Form 16 attached to salary certificate, Income Tax Returns

• Bank Statement
• Audited Balance Sheets

Benefits of Secured Loans

• Lower Interest Rates

Owing to the fact that a collateral is given against the loan, the interest rates charged are not very high.

• Loan Amount

As the bank’s risk is reduced, they are willing to give a higher quantum of loan against the collateral provided.

• Repayment Tenure and Terms

Generally, the terms and tenure of loan repayment can be negotiated by the borrower. Rules are flexible and made convenient for the borrower.

• Credit Score

Credit score is not a major factor to take secured loans, so even people with a low credit score can avail secured loans.

• Tax Benefit

The Principal repayment on home loans is tax deductible under Section 80C of the Income Tax Act.

• Minimum Income

The minimum income limit is low as compared to unsecured loan, as the bank is secured against default.

Benefits of Unsecured Loans

• Generally the application process is very smooth, and many banks offer online application as well. Customers don’t need to visit the bank frequently to get the loan approved.
• There is no collateral requirement, and so in case of default, the borrower doesn’t have to worry about any assets being seized by the bank.
• People with high credit score can easily avail a loan without much worry.
• The document requirement for this loan is minimal, and therefore, the loan application is hassle-free.
• Applicants can avail loans in proportion to their income. Higher income makes the applicant eligible for a higher loan amount.

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