What is the difference between a secured and unsecured car loan?
If you’re buying a new car with hard cash, kudos to you. But, the truth is most Canadians have to consider applying for a loan with a major purchase such as buying a car. When you start shopping around for a car loan, you might come across the terms secured and unsecured loans. Let’s find out more about each loan, and how they differ from one another.
What is a secured car loan?
First, secured loans are secured against you assets which means you can borrow a larger amount and be eligible for lower interest rates. This is the primary advantage of a secured loan, because you are backed by the security of your assets.
Similarly, when you sign up for a secured car loan, the car is generally used as security for the lender. Life happens and if you default on your loan, the lender will be able to sell your car in order to recover and apply proceeds against the full amount borrowed. If the sale of your car does not cover the full amount owing, then you know what happens next: you will have to cover the short fall from your own pocket.
Secured car loans are the most common type of car loans because there is less of a risk to lenders.
What is an unsecured car loan?
Collateral is not required for unsecured loans. You are not required to put your car or any of your assets as a security for your loan. Clearly, this is a risk to the lender because if you default on your loan, they are stuck with the bill. As a result, you will find the interest rate is often higher, and you won’t be approved to borrow as much as you would on a secured loan. Further, family members can act as guarantors for unsecured loans. Basically, if you default, your family members can help pay for the loan.
So which one to choose?
It depends. There are some clear advantages to taking the secured loan. If you’re confident in your ability to repay then a secured loan provides better terms. An unsecured loan has its own set of advantages, but conventional wisdom dictates that if you're not sure you'll be able to pay off a loan, you shouldn't take it out in the first place.