Should you take a secured loan over a personal loan? What alternatives are there to secured loans? Find the answers and more in Zoopla's easy-to-understand guide.
A secured loan is when the amount you borrow is literally ‘secured’ against an asset, such as a car or a property. That’s why loans designed to be secured against your home are sometimes advertised as homeowner loans.
If you fail to make the repayments on a secured loan in full and on time, the lender has the right to take possession of the asset and get its money back that way. In other words, loans secured against your home put you at risk of having it repossessed.
Unsecured loans – also known as personal loans – on the other hand, are not secured against anything. So if you default, the worst the lender can do is chase you for repayments and put a black mark on your credit score which will hamper your chances of borrowing again in the future.
Only if your debts are long term, serious and unsustainable, could an unsecured lender put a ‘charging order’ against your home – and it would have to seek permission via the courts first.
Who are secured loans suitable for?
Not everybody can qualify for a secured loan. You’ll need to have the following:
- Your own home: As it says on the tin, secured homeowner loans are only suitable if your name is on the property deeds – you won’t qualify if you are renting. If you already have a mortgage secured against your home, a secured loan can be known as a ‘second charge’ mortgage. In other words, if your home is repossessed, your ‘first charge’ mortgage lender will have first dibs on what it’s owed and your ‘second charge’ lender will have second. If you own your home outright with no mortgage, a secured loan can also be known as a 'first charge’ mortgage.
- Enough ‘free equity’: If you already have a mortgage, you will need enough remaining equity – that’s the slice of your home’s value that has no borrowing against it – to qualify for a secured loan. The total debt of your mortgage and the secured loan borrowing should typically not exceed a given cap – for example, 85% or 95% of your home’s value. This cap varies between lenders but the closer your total borrowing is to 100%, the higher loan rate you’ll be offered.
- A steady income: The secured loan provider will want to see that you can afford to repay the amount you want to borrow – on top of existing debts such as your mortgage. So as well as your income, it will look at your entire raft of monthly outgoings, down to food bills and gym memberships. Like mortgage lenders, secured loan providers also tend to favour employed, rather than self-employed applicants.
- A reasonable credit score – or extra equity: A secured loan provider may look at your credit report to see how well you manage your debts now and in the past. The better your score, the better your chance of being accepted. However, credit checks on secured loans are not as stringent as they are on personal loans – your home is effectively held to ransom instead. So, providing you have enough equity in your home, you may be able to get a secured loan with no credit check at all. A good credit score will still work to your advantage though as the interest rate, loan size and terms you are offered will be more favourable.
- Youth on your side: Many secured loan providers impose upper age limits. They typically won’t lend if you are older than 60, or if you won’t have paid off the loan by the time you are 70.
What do secured loans pay for?
Homeowners take out secured loans for a number of reasons. It could be to pay for the cost of home improvements, consolidate more expensive debts, buy a new car or even pay for a major trip. Think very carefully about your motivations though; home improvements might save on the cost of moving to a bigger place and increase the value of your current home for example, but saddling yourself with long-term debt and putting your home at risk to fund a holiday can never be a good idea.
Why would I take a secured loan, rather than a personal loan?
You may be wondering why you would take a secured loan and put your home at risk at all, when unsecured personal loans are available? And the short answer is you wouldn’t. Where possible, unsecured borrowing is always preferable – after all, the roof over your head is nothing to gamble with. However, because of the nature of secured lending, there are some circumstances where it could be your only option. Here are the main examples:
- You need to borrow a large sum: The vast majority of unsecured personal loans come with a borrowing cap of £25,000 – although some stretch to £35,000. Secured loans however, providing your ‘free equity’ permits, can lend up to £200,000 or more. In terms of minimum borrowing amounts, secured loans usually come with a floor of around £3,000 while you can borrow as little as £1,000 on an unsecured loan.
- Your credit score won’t stand up to scrutiny: As we’ve touched on, your credit score will be much less important when applying for a secured loan than a personal loan. So, if you need to get your hands on a large sum but you know your credit report is patchy, a secured loan may be your only option. Always apply to see a copy of your credit report first, though in case it’s not as bad as you thought. A statutory copy costs just £2 from any of the three major credit reference agencies, Experian, Equifax or Call Credit.
- You want to spread your repayments over long time: Secured loans also come with much longer repayment terms – up to 30 years, compared with a typical five-year maximum with unsecured lending. But, while spreading the repayments over a longer time will keep the cost of your monthly repayments down, it will mean you pay a lot more interest overall.
- The other major red flag here is that if you are able to repay the loan sooner than the agreed term, your ‘settlement figure’ could incorporate a hefty early repayment charge. This could be a one-off lump sum or a certain number of months’ interest. But the earlier you clear the loan the bigger this charge tends to be. Make sure you read the terms and conditions around this before signing up.
- It’s ‘cheap’ borrowing: Because a secured lender has a vested interest in your property – and usually over a number of years – interest rates charged tend to be lower than on other kinds of borrowing. Depending on your circumstances you may be offered rates of low single figures.
- Bear in mind though, that the eye-catching APRs (annual percentage rates) secured loan companies advertise only need to be offered to 51% of successful applicants – so the rate you are offered could be a lot higher. The APR is also usually variable so the lender reserves the right to change it at any time. You may also have to pay set-up or broker fees if the loan is arranged by a third party.
Did you know? Since March 21, 2016, secured loans have fallen under the same FCA regulation that applies to mortgages, which should result in a more level playing field...
What alternatives are there to secured loans?
Secured loans – alongside payday loans and loan sharks – should be considered borrowing of last resort, as your home will be at risk if you fail to keep up with the repayments. There are plenty of other alternatives to exhaust first. Consider the following:
- Use a 0% purchase credit card to fund home improvements: If you need to pay for a new kitchen or bathroom, some specifically-designed credit cards won’t charge interest on new purchases for up to two years. So long as you repay this debt within the stated 0% period (setting up a direct debit is a good way to ensure this) you will not have paid a penny in interest.
- Paying with a credit card, so long as the purchase is more than £100, also means you will be protected under the Consumer Credit Act. So if anything goes wrong such as the goods are faulty or the company goes bust mid-job, the credit card provider becomes jointly liable with the retailer to give you a full refund. The downsides are that you will need a very good credit score to qualify for cards like these, and the credit limit you are given may not be high enough.
- Use 0% balance transfer deals to clear credit card debts: If you were considering taking a secured loan to repay credit card debt, you are much better off shifting them to a 0% balance transfer credit card instead. These cards – which you can compare here – won’t charge interest for up to three years on debt you switch over from another provider, giving you plenty of time to get back to solvency without paying interest. The longest 0% terms come with a fee of around 3% but the main rub is that your credit score will need to be squeaky-clean and your credit limit may not be sufficient.
- Use a personal loan for anything: While the very maximum you will be able to borrow is £35,000, a personal loan should always be your first port of call. Interest rates are still very low on unsecured lending and your home won’t be at the mercy of a secured loan provider as well as your mortgage lender. If your credit score is unlikely to give you the green light for a personal loan, try your bank. If you have been managing your current account well you might have more chance of being accepted – even if it’s not the best rate of interest.
- If your debts feel insurmountable, get in touch with a free debt charity, such as Step Change. There could be ways, such as a Debt Management Plan, that you could tackle what you owe without having to stump up your home as security.
- Take a further advance on your current mortgage: If you really do need to borrow against your home, the first port of call should always be your existing mortgage lender, not a secured loan provider. If you have enough equity and your affordability stacks up, it may offer you a further advance on your loan. If you are on a particular mortgage deal, such as a fix or tracker, the new slice of lending may be offered at a higher interest rate – the lender’s standard variable rate (SVR) for example. But this is still a much more flexible arrangement and means only one lender has a charge over your home, not two.
- Remortgage entirely: If you are not locked into a mortgage deal and are paying your lender’s SVR, you are free to up sticks and find a better deal – and lender. If you increase your loan size as part of a remortgage, you can borrow the cash you need that way instead. And if can land yourself a better interest rate you may find that – even though your borrowing is bigger – your monthly repayment is not much changed. Start by contacting an independent mortgage broker.