What are Unsecured Loans? A Borrower’s Guide


BY The Lenders Network

what is a unsecured loan

5 minute read

The majority of Americans (80.9 percent of Baby Boomers, 79.9 percent of Gen Xers, and 81.5 percent of Millennials) have some kind of debt (student loans, credit cards, mortgage loans, etc.).

Most of these people are also pretty oblivious when it comes to differentiating between different types of debt. Many people don’t even realize that there’s a difference between secured and unsecured loans.

Are you part of this group? If so, don’t worry.

So what are unsecured loans?” We’ve got your answer! Here’s everything you need to know about this loan type and the pros and cons.

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What is an Unsecured Loan?

Unsecured loan definition –  An unsecured loan is a type of loan that is not supported by any type of collateral such as personal loans and unsecured credit cards.

The chances of getting approved for an unsecured loan increase based on the borrower’s creditworthiness.

Generally speaking, a borrower with a good credit score, the greater their likelihood of getting approved for an unsecured loan.

A secured loan requires collateral, such as a vehicle or a home, which can be repossessed by the bank.

Examples of Secured Loans

  • Mortgage loans
  • Auto loans
  • Home equity loans
  • Secured credit cards
  • Boat loans
  • Motorcycle loans

Examples of Unsecured Loans

Some of the most well-known examples of unsecured loans include:

  • Unsecured credit cards
  • Personal lines of credit
  • Unsecured Personal loans
  • Student loans
  • Signature loans

All of these loans can be term loans or revolving loans. A term loan must be paid off in equal installments over a specific period of time. Revolving loans have a credit limit that can be spent, repaid, and then spent again.

Types of Unsecured Loans

Personal Loans

A personal loan is an unsecured installment loan. These loans are typically between $5,000 – $50,000 and have a fixed rate.

The interest rate will largely depend on your fico score, the higher your score the lower the rate will be.

Most lenders require a minimum credit score of 640, however there are personal loans available for borrowers with a 580 score.

Payday Loans

Loans from alternative lenders, such as payday loans, are another type of unsecured loan.

Payday loans are very risky. They often come with very high interest rates (sometimes hundreds of times more than the loan amount).

Alternative lenders will also use other strategies to ensure they get their money back. They may require borrowers to give them a postdated check, or they may have to agree to automatic withdrawals from their checking account.

Payday loans ought to be considered a last resort for individuals who are looking to borrow money. A line of credit or personal loan is a much safer option.

Pros and Cons of Unsecured Loans

As with any type of loan, there are both benefits and drawbacks associated with taking out an unsecured loan. Some of the pros and cons of these loans are explained below:

Pros

Whether you need money to start a business, fund a home renovation, or just to get through a difficult time, the following are some good reasons to consider applying for an unsecured loan:

  • No collateral required (lender cannot take anything from you)
  • There’s no risk of losing your home (if you are a homeowner)
  • Loan completion is much faster

This last point is especially appealing to those who need money right away. In fact, sometimes, you can get approved for a loan on the same day that you submit an application.

Cons

Of course, there are also some downsides to unsecured loans, including the following:

  • Higher interest rates for people with bad credit (this is because there’s a greater risk that the loan will not be paid back)
  • Loan amounts are limited (usually, you can only borrow up to approximately $25,000)
  • Less flexibility

This last point is mainly true only for personal loans and student loans, which have to be paid back by a certain date. They may also come back with repayment penalties if you pay them off before that debt.

The same is not true of credit cards and personal lines of credit. They are much more flexible.Â

Tips for Getting Approved for Unsecured Loans

If you want to apply for an unsecured loan, you can increase your chances of getting approved if you follow these steps:

Use a Cosigner

Typically, when you’re having a hard time getting approved for an unsecured loan, it’s because your credit score is too low.

If this is the case for you, you might be able to increase your chances of getting approved if you have someone with a higher credit score cosign your loan.Â

When you use a cosigner, the lender sets the terms of your loan based on their credit score instead of yours. The cosigner also agrees to take over repayment of the loan if you can’t make the payments.

Provide Proof of a Stable Income

Sometimes, even if you don’t have great credit (or haven’t had a chance to build up your credit), a lender will still approve your loan application if you prove that you have a steady income.

Provide the lender with copies of your recent pay-stubs or a copy of your employment history to show them how much money you make each month. This can help the lender build confidence in you and your ability to pay off the loan.

Start Building Up Your Credit

If you don’t need money right away but will in a few months, try to build up your credit as much as possible before you apply. There are lots of things you can do to improve your credit score, including:

  • Make all your credit card payments on time
  • Pay down your debt and avoid leaving a balance on your card each month
  • Keep your credit utilization to 30 percent of lower

You can also use a secured credit card. You pay a security deposit for this type of card, and that deposit acts as your credit limit. It’s a low-risk option and the chances that you’ll be approved for this kind of card are very good.

Compare Rates from Various Lenders

Finally, make sure you’re comparing rates from various lenders.

Don’t get discouraged if one lender turns you down, and don’t just go with the first person who accepts your application.

By comparing rates, you’ll be able to rest easy knowing you’re getting the best rates and loan terms possible.Â

Get an Unsecured Loan Today

The only difference between a secured loan, and an unsecured loan is one requires collateral, and the other doesn’t.

Mortgage and auto loans are secured by your home, or car.

Unsecured loans such as personal loans, and credit cards are unsecured.

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