Looking for a way to access additional funds for home renovations or personal needs? A secured loan could be an option to help you get a loan with lower interest rates, but it comes with its own risks.
So, what is a secured loan, and how do they work? If you’re uncertain about the different types of loans, we’re here to help. Let’s look at secured loan definitions, and whether they might be right for your financial needs.
Secured loans explained: What is a secured loan?
A secured loan simply means that the borrower has to offer something as security or collateral in case they are unable to meet the loan repayments. Secured loans go through rigorous application and underwriting processes, which means you can often get better borrowing terms, such as higher loan amounts, lower interest rates and longer terms. However, your asset could be repossessed if you don’t keep up the repayments.
How do secured loans work?
There are different types of secured loans that you can apply for. A standard mortgage is technically a secured loan, where the bank will repossess the property if you fail to make repayments. However, when talking about secured loans, most people mean homeowner loans or second charge mortgages. This is where you take out an additional loan against a property that you own, often to help with renovations, remodelling, or consolidating other debts to make them simpler to pay.
It’s also possible to take out secured loans using other assets as collateral, such as cars, jewellery, art, or any other valuable possessions you have. The value of the asset has to be assessed by the lender before they agree to the loan.
Once you take out a secured loan, they work almost identically to other loans. You get a lump sum of the money you have borrowed, and you have to make regular repayments to pay off both the capital and the interest. The exact repayment terms will be agreed between you and the lender before you take out the loan.
How much can I borrow with a secured loan?
The amount that you can borrow with a secured loan will usually depend on a few factors, similar to when you apply for a standard mortgage. The main factors are:
- Your income. Most lenders will only let you borrow a certain amount based on a multiple of your income. If you are borrowing money with a partner, lenders will usually consider both your incomes
- Your debt-to-income ratio, which shows how much money you have left after paying debts or bills each month
- Your credit rating. A better credit rating makes you a more attractive borrower, leading to higher borrowing limits
- The equity you have in the property (or value of another asset). Equity is how much of the property you own. For example, if you have £100,000 left to repay on a £400,000 property, your equity would be £300,000. This is the maximum that you would be able to borrow with a secured second charge mortgage
See how much you could borrow with our secured loan calculator.
What happens if I’m unable to make payments on my secured loan?
If you default on payments for a secured loan, the asset you used as collateral can be repossessed, but there are plenty of steps before things get this serious. You will usually have plenty of time to discuss options with your lender’s support team, such as payment plans or mortgage holidays. In roughly 9 out of 10 cases, there’s a mutually agreed plan to get things back on track, making sure that you don’t lose your home. Read more about possible money worries and support to see how we can help if things become difficult.
Secured loans vs unsecured loans: How do they differ?
With both secured and unsecured loans available to homeowners, it’s important to know the difference. This can help you figure out which type of loan is right for you.
Secured loans where you have an asset as collateral often lead to high borrowing limits and low interest rates, but your property can be repossessed if you fail to make payments. Having security on a loan can make it easier to get funding.
Also called personal loans, unsecured borrowing means that you do not have to offer any collateral or security. If you fail to repay the loan, you will not risk losing your property, but you can still face legal and financial consequences. Unsecured loans often have a smaller borrowing limit and higher interest rates since there is more risk to the lender. They also often have shorter loan periods, meaning that you will have to pay back the money sooner.
It is worth looking at what different lenders will allow you to do with the funds from these loans. Personal loans have few, if any limitations on how you use the money. Secured loans can typically be used for any legal purpose, but you might want to only use a secured loan for things such as home renovations, as you might not want other loans secured against your property.
What are the advantages and disadvantages of secured loans?
Secured loans can be a great option for people who need to free up some of the equity in their property. However, it’s important to know the pros and cons of these loans.
Advantages of secured loans
Some of the main reasons that people choose secured loans are:
- Higher borrowing limit
- Lower credit score requirements
- Interest rates can be lower than unsecured loans
- Secured loans can be easier to get than unsecured loans, especially for self-employed borrowers or people with fluctuating income
- Loan duration can be longer, meaning you have more time to pay it off
Disadvantages of secured loans
However, it is worth looking at the negatives of secured loans, including:
- The risk that your property can be repossessed if you fail to make payments
- Longer loan terms can mean you pay more in total due to interest
- Some lenders might put limitations on how you can use the funds from a second charge mortgage
- Secured loans can take longer to arrange as the lender has to assess the value of the collateral before issuing funds
What to consider before applying for a secured loan
Before you start looking for a secured loan, it’s worth making sure that you’re familiar with these basic secured loan considerations and principles. On top of this, some of the things to think about include:
- Your current financial situation and how much more you could pay per month on loans
- Your loan-to-value ratio
- Interest rates on loans, and how they compare to the interest rates on any savings you have
- How to find a secured loan – such as through a broker
- How to manage your loan