Understanding the difference between an unsecured and secured loan can ensure you make the right choice when it comes to making an application.
With so many options available on the market, it can sometimes feel a bit overwhelming. An unsecured loan with less risk to your assets but potentially higher interest rates might be your preferred option. Or, if you have a less-than-perfect credit history, a secured loan could be more suitable. Either way, knowing the ins and outs of each loan type is key.
Here at Novuna Personal Finance, we explain the difference between an unsecured and secured loan, along with the pros and cons of both to help you make the right decision.
What is the difference between an unsecured and secured loan?
A secured loan is pledged against a valuable asset such as a house or car while an unsecured loan is entirely based on your personal circumstances, credit history, loan term and amount — it doesn’t require you to put up collateral.
If you fail to make repayments on a secured loan, your lender can repossess your assets to repay your debts. With an unsecured loan, failure to make your repayments will impact your credit score and could make it more expensive and more difficult to borrow money in the future. Whether you have a secured or unsecured loan, a lender may take legal action against you if you do not make the agreed repayments.
What is an unsecured loan?
Unsecured loans, more commonly known as personal loans, are a great way to spread the cost of an expensive purchase without requiring you to put up any form of collateral. Instead, lenders will assess your creditworthiness and paying capacity to determine how much you can borrow and at what rate of interest. Essentially, lenders need to assess how likely you are to repay what you owe.
If you default on your repayments, it will be recorded on your credit file. This will make it more expensive or even impossible to borrow in the future. Your lender may take legal action against you to enforce you to settle any debt.
How much can I borrow with an unsecured loan?
Not all lenders offer the same minimum and maximum loan amount and term (which is the period over which the loan is to be repaid). The max loan amount can vary from £5,000 to £50,000 and the max term can vary from 3 years to 10 years, though many lenders cap these at £25,000 and 5 years. It is important you check what the lender offers - you can take a look at our guide on how much you can borrow for more information. When you apply, the lender will assess your application based on your credit history and personal circumstances which will determine how much you may be able to borrow.
For a higher loan amount, it’s likely you’ll need a secured loan instead as you may need to offer collateral as security.
Looking for a small loan? Make sure you choose a reputable lender. If you go with a payday lender, for example, you could end up paying exorbitant interest rates or hidden fees.
At Novuna Personal Finance, we offer low-rate unsecured loans between £1,000 and £35,000 with competitive rates from as low as 7.4% APR (£7,500 to £25,000). You could be ready to buy a new car, head off on an adventure in a new caravan or motorhome, or spruce up your home with a home improvement loan. Whatever you need a personal loan for, you’ll be able to apply for the amount you need up to £35,000.
What are the pros and cons of an unsecured loan?
- Flexibility: You can borrow a specific amount of money over a set period at a fixed APR and monthly repayment cost so you can budget accordingly.
- Less risk: Since you’re not securing an asset against the money you borrow, valuable items such as your home or car aren’t at risk of being seized by the lender although a lender may still take legal action against you.
- Smaller amounts: You can take out smaller amounts to suit your needs which prevents overborrowing.
- Easy application process: It’s typically much easier to apply for an unsecured loan. Our online application form takes just a few minutes to complete.
- Quick loans: You’re likely to be able to gain access to funds much quicker when you apply for an unsecured loan. In our case, if your application is accepted, you could receive the money in your account within two working days.
- You don't need access to valuable assets: If you don’t own a home or car, but you have a steady income and a good credit score, you may find an unsecured loan a good option as you won’t need to pledge collateral against it to be eligible.
- Higher rates: Interest charges on unsecured loans tend to be higher than those on secured loans because they aren’t backed by collateral.
- Credit dependant: Lenders need to know that their money is going to get paid back in full and within the agreed period. If you’ve got a less-than-perfect credit history, you might struggle to qualify.
- Impact your credit score: If you fall behind on repayments, this could affect your credit score and you may find it difficult to borrow again in the future.
What is a secured loan?
A secured loan allows you to borrow money over a set term, though you must pledge an asset — such as your house or car — against the amount you wish to borrow. This provides a form of security to the lender.
The value of your assets will be taken into consideration when deciding how much you can borrow and is also likely to affect the interest rate you are given. If you fail to make repayments, then the lender can potentially sell your assets to clear your outstanding balance.
How much can I borrow with a secured loan?
The amount you can borrow will normally be related to how much you earn (for example, three times your annual salary). The term is usually 25 years, though some lenders may offer longer repayment periods.
How much you can borrow with a secured loan will also depend on the value of collateral available and any debt currently secured against it.
What are the pros and cons of a secured loan?
- Borrow more: If you’re a mortgage holder or property owner, a secured loan is a good way to borrow a large sum of money. Depending on where you go, you could get anything up to £500,000.
- Available to more people: Secured loans are often the only option for people with a less-than-perfect credit history. As your property acts as security, secured loans can be easier to qualify for.
- Longer repayment periods: You can arrange to repay the money you borrowed over a longer period, which might reduce your monthly repayments.
- You could lose your assets: If your circumstances change and you are unable to meet repayments, you put your home or car at risk. It is therefore essential you don’t fall behind with payments.
- Variable interest rates: Many secured loans have a variable rate of interest, which means your monthly repayments will increase or decrease depending on the base rate set by the Bank of England. There are secured loans available with fixed rates of interest for at least the initial part of the term, which does allow you to budget during this period as the amount you pay each month does not change.
- Early repayments: Repaying a secured loan early or even making overpayments may incur a penalty charge, particularly if this is done during the fixed interest rate period.
- Increased interest: As you typically pay back a secured loan over a longer period of time, it’s likely you’ll end up paying more interest overall.
- Additional fees: Unlike unsecured loans, expect to pay a lender arrangement fee when taking out a secured loan, which is usually a small percentage of the loan amount. You may also need to pay a broker fee and property valuation fee.
Is a personal loan secured or unsecured?
Personal loans are a type of unsecured loan. Other examples include credit cards and student loans. Lenders will look at your creditworthiness and personal circumstances to make a decision, rather than requiring you to pledge an asset against the amount you wish to borrow.
Secured loans commonly include mortgages and certain car finance products. Our car loans, however, are unsecured so you won’t need to secure your car against your loan when you borrow from us.
What do I need to consider when getting a loan?
If you choose to apply for an unsecured personal loan with us, there are some key things you need to consider:
- How much you want to borrow
- How quickly you want to pay it off
- Your current state of employment, including annual income
- Your monthly spend and how much you have spare each month to use for your loan repayments
- Your credit history, which demonstrates whether you have been keeping up to date with your monthly repayments on your other borrowing commitments
This will determine whether your loan application is accepted or not, and the APR rate you’re offered. The majority of our customers are given our advertised rate of 7.4% APR, though the rate you receive will based on your personal circumstances and credit history.
Use our unsecured loan calculator to get a quote, and an idea of estimated monthly repayments.
I was rejected for an unsecured loan — should I opt for a secured one instead?
It’s true that it might be easier to get a secured loan — but be realistic about what you can afford and what you’re putting at risk. Taking out a secured loan might increase your chances of getting approved, but you’ll also need to put up valuable assets as collateral which can be risky.
Instead of immediately reapplying for loans, which will leave a footprint on your credit record and could impact the decision of other lenders, take a step back to try and work out why your application might have been rejected in the first place. It may be best to wait until your circumstances change — for example, you may need to secure permanent employment, decrease your debt-to-income ratio or see if you can improve your credit score — before applying for another loan.
Gillian Brooks is Head of Lending at Novuna Personal Finance. She has over 30 years' experience primarily within Financial Services, spanning product development and marketing for personal loans, mortgages and savings. Gillian developed Novuna’s personal loan product, which launched in 2011, and has seen Novuna grow into one of the UK’s top ten providers.
Monday 3rd July 2023