The Types of Collateral for Personal Loans
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UPDATED: Aug 1, 2012
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The types of collateral for personal loans—paycheck, auto title, and home equity—are varied and rightly so. Collateral is a valuable asset that can secure a loan for a lender by providing value to them that limits the risk of lending out money. Collateral can be seized by lenders if borrowers default.
Humanity has long valued a variety of objects, both abstract and physical. The value of collateral influences the amount that a secured personal loan can be borrowed for. For instance, a borrower with a valuable new car is more likely to receive a loan of a higher amount when compared to a borrower with an older, beat-up car. This is because the loan is secured by superior quality collateral.
However, it is important for borrowers to keep in mind the possible ramifications of offering collateral: if they default on a collateralized loan, they will lose their collateral. Borrowers should carefully review the terms of a loan and any contract before agreeing to borrowing. Wise borrowers can generate a quote to determine what they will be paying on a secured loan.
The most common types of collateral used for personal loans are typically one of the following:
- Auto Title
- Home Equity
Collateral that comes in the form of paychecks essentially secure themselves via the income and savings of a borrower. In the event a borrower is unable to payback a paycheck loan then his or her next paycheck will be garnished.
Since actual cash is securing the loan, borrowers should be wary that any default might leave them vulnerable to an emptied bank account or a stunted paycheck.
Auto titles secure personal loans through the value of a car. In this instance, the collateral—a borrower’s vehicle—can be repossessed by a lender in the event of a default. Auto titles should only be used for loans that borrowers know they can repay since failure to repay can lead to their vehicles being repossessed.
Home Equity is the difference between a home’s fair market value less the outstanding balance of all debt on the property.
Large pieces of valuable land are prized collateral and can secure very large sums of personal loan money. However, in the wake of the housing bubble, real estate may be less desirable for lenders and may prove difficult to offer as collateral for borrowers seeking personal loans.
Additionally, home equity is virtually non-existent for many recent homeowners who purchased property at the height of the recent housing bubble.
Putting Up Collateral
Keep in mind though, lenders aren’t obligated to accept the collateral that a borrower has available. Certain lenders may or may not accept certain kinds of collateral.
For example, a pawn shop likely won’t secure a loan if a borrower offers stocks options as collateral. However, a pawn shop would probably be very interested in accepting jewelry or a well-kept vehicle as collateral for a personal loan.
Borrowers should also keep in mind that the amount of the loan they are seeking must be matched by the quality and value of the collateral they’re willing to offer. A car may not secure a loan valued at several hundred thousand dollars. Similarly, borrowers shouldn’t offer their home as collateral for a loan of only a few thousand dollars.
Asking for more money than they need can leave borrowers vulnerable to paying more interest or even defaulting and losing their collateral. Understanding their needs is vital for borrowers seeking a loan.
If a borrower feels uneasy about putting up collateral, or if they simply don’t have any possessions that would qualify as collateral, there are alternatives.
Unsecured personal loans, while possibly carrying higher interest charges, are readily available for interested borrowers. Reducing living expenses and putting disposable income towards higher needs are also useful alternatives to saving money as a loan alternative. Borrowing money from family and friends can also be an alternative to both secured and unsecured personal loans.
Fortunately for borrowers, loans of all types are becoming easier to find. With the number of small personal loan lenders on the rise, both larger and smaller lenders are fighting for business, bringing customer-beneficial competition to the market.