The most important difference between secured and unsecured loans is simply that the latter type is not secured against your personal assets. When you take out an unsecured loan, you do not offer any personal property as collateral. For this reason, unsecured loans are regarded as high risk loans by lenders.
If a borrower does not offer personal property as collateral, how can a lender accept the risk of an unsecured loan? In general, lending institutions make up for this by having much stricter requirements for borrowers. If you are attempting to take out an unsecured loan, a lender will want to see evidence that your credit rating and history are good, and will also want to make sure that your income to debt ratio is good enough that you will have no trouble paying back the loan.
The Pros and Cons of Unsecured Loans
The main advantage of an unsecured loan is, of course, that you are not risking your personal property. If you are unable to repay the loan at any time in the future, there is no risk that your personal property can be seized by the lending institution.
Note that this does not mean the lender has no legal recourse if you default on the loan. It simply means that they cannot automatically seize your house or other personal property in lieu of payment. In addition, if you declare bankruptcy, unsecured creditors have low priority if your assets are not sufficient to pay off all creditors. Defaulting on the loan will also have other repercussions - your credit rating, and therefore your ability to take out loans in the future, will be affected.
The downside of this is that the lender must cover their risk in other ways. Commonly this is done by increasing the interest rate of unsecured loans. If you take out an unsecured loan, you'll pay a higher interest rate than you would if your loan was secured with some sort of personal property as collateral.
Another advantage of taking out an unsecured loan is the speed with which you can do so. Generally, you can apply for an unsecured loan and receive the money within two days, assuming your application is approved. The lender does not need time to evaluate the collateral you offer, so the process can be completed reasonably quickly.
However, because you are not offering any collateral, lenders focus more on your ability and willingness to repay a loan. This means that you face not only a higher interest rate, but also more stringent lending criteria. If you're looking for an unsecured loan, you can expect that conventional lenders will require you have an excellent credit history and income to debt ratio.
What is an Unsecured Loan Suitable For?
In general, most lenders will not allow you to borrow more than £15,000 to £25,000 with an unsecured loan. Limiting the amount of money you can borrow is another way that lenders minimize the risk of allowing you to borrow without offering collateral.
If you need a loan in a hurry, or if you simply do not want to offer any personal property as collateral, an unsecured loan is probably your best option. However, it's very important to keep in mind that unsecured loans don't come without disadvantages. Be aware that you'll pay more for the ability to borrow without collateral, and also be aware that defaulting on the loan does carry penalties.