Should I Pledge Assets I Have as Collateral For a Loan?

 Sometimes when a business or a person needs loan, it can be due to many reasons. A business may be experiencing a cash flow problem, or they need additional capital to expand and grow and receive larger and more lucrative contracts.

 

Sometimes when a business or a person needs loan, it can be due to many reasons. A business may be experiencing a cash flow problem, or they need additional capital to expand and grow and receive larger and more lucrative contracts.

An individual may need a loan to buy a car, buy a property, but an additional property or more properties if they are a landlord with a property portfolio, or they may just need a loan to do repairs or enhancements to their home.

Qualifying for a loan usually comes down to two factor:

* Affordability

* Credit history/score

Lenders want and need to insure you can afford to repay the loan, can you afford the loan payments, and also, what is your track-record or history in repaying loans; which means your credit score.

The largest component of your credit score (35%), is payment history.

Miss monthly payments, and/or pay late, and it drastically affects your credit score. It brings it down, and a low credit score will either cost you the loan, or cost you with a high interest rate due to being a high risk.

Low credit score = high risk

High credit score = low risk

There are times when a business, or an individual require a loan, for whatever reason, and they have the means to repay the loan, and they may have a good credit score, but for some reason, the banks and lenders are baulking at granting the loan.

There are ways to have your chances of getting a loan approved increase, and one of those ways is to pledge something of value, collateral.

What is Collateral?

Collateral is a physical, tangible item of value, such as property, or something else of value, that is used to secure a loan. The item is pledged for the loan, or is held by the lender as collateral for the loan.

These types of loans are secured loans, secured by the collateral.

The collateral is something of value which can be used to offset any losses a lender may experience should the borrower default on the loan.

When we think of secured loans and collateral, we think of property and mortgage loans.

As a borrower we cannot afford to save up and just pay cash for a property, so we give the lender a deposit of 10% to 20% of the sale price, request a loan for the remaining balance in the form of a mortgage loan, and the house or property becomes secured for the loan; the property becomes the collateral for the loan.

Should I Pledge Assets I Have as Collateral For a Loan?

Should we as the borrower default on the loan, the lender can repossess the property and sell it to recoup some of if not all the money they granted us in the loan, thus avoiding any losses.

It all sounds so easy and simple when you write it out, however, it is not so easy and simple. Just because a lender has the property as collateral does not mean they will not lose money on the loan. In a repossession situation, a property may be distressed or not sell for what it should, so the lender can still lose money due to this, and also expenses associated with repossessing the property.

With that being said, secured loans, loans that have some form of collateral, are less risky to a lender, and can be approved more often than a unsecured loan.

Secured Loan Lower Interest Rates

With secured loans being less risky to a lender, usually secured loans have better interest rates than unsecured loans. So for this reason, pledging an asset for a loan, can be a good idea.

If a lender is offering an interest rate that is 1% or even .5% higher on a secured loan, and you need a loan of a substantial amount of money, in the tens of thousands or more such as a mortgage, saving that .5% or more saves you a substantial amount of money/interest over the term/course of the loan.

Once again, the lower interest rate is due to the lower risk the lender feels they have due to the loan being secured.

Should I Pledge Assets I Have as Collateral For a Loan?

There still is the affordability aspect of the loan, that never leaves or goes away, you still need to show you can afford to repay the loan, but as the loan is being secured by something, you can receive a lower interest rate.

You Are Tying Up Your Asset(s)

When you buy a property and use the property as collateral for the mortgage loan, you are not concerned about the property being “tied up” as security for the loan. You still get to live in the property, it is in your name and registered as such on the land registry.

The lender just holds a mortgage or security interest/lien against the property should you fail to pay.

Using and pledging other assets for a loan may not be as simple. You are technically tying up those assets with and by the loan.

Depending on what the asset is you are pledging, you may want to rethink using it as collateral for a loan.

Cars, property, and other physical items purchased using secured loans are not a big deal, as again, you have use and ownership of those items. Using certain equipment you are buying for your business as collateral also is not a problem, however, if you are pledging savings, accounts you may need access to later on as collateral, these accounts may be frozen due to the fact they are pledged as collateral for the loan.

What Assets Can Be Used For a Loan?

The answer to this question will depend on the lender, but in reality, anything of value can be used and pledged as collateral for a loan. It is up to the lender to accept the asset as collateral.

There are speciality lenders that deal and work with “odd” assets and grant loans against them.

When we say anything of value can be pledged as collateral for a loan, it can be anything as long as the lender accepts it. It can be artwork, expensive wines, antiques, of course cars, property, stocks and shares in a company, equipment, and savings accounts, bonds, and other cash accounts.

Having the cash in savings and not wanting to spend it, or not having enough cash for the purchase, but enough to use as collateral for a loan, is one way to make the purchase you require and not use your own money.

Of course you need to repay the loan lest you lose your collateral.

Alternatives

Pledging assets for a loan is not for everyone. Sure buying a property and using the property as security for the loan makes sense, but using savings or other assets for a loan si not always the best way to go, and there are alternatives.

If a loan is not being granted due to bad credit and not an affordability issue, there is the option of using a guarantor to secure the loan.

Guarantor loans are based on affordability and the fact there is a guarantor, someone to guarantee the loan, and make the payments should the borrower fail to do so.

Should I Pledge Assets I Have as Collateral For a Loan?

For businesses and individuals alike, there also is the option of alternative lending such as crowdfunding or peer-to-peer lending.

This form of lending does not usually require any form collateral, so any assets you have would not be tied up in the loan.

Pledging assets and using collateral for a loan does make the loan or idea of lending more attractive to a lender. There are risks involved for the borrower, such as losing the asset if they fail to repay the loan, but on the whole, secured loans offer better interest rates, and in some instances better/longer terms for repayments, which can help in keeping the monthly payments lower than unsecured loans.

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