Secured vs. Unsecured Loans - Which Is Right For Me?

Life comes at you fast. One day your finances are in order, and then, just after you paid for your dream vacation, your car breaks down, you receive a hospital bill you weren’t expecting, and your refrigerator quits working.

Situations like this happen all too often, and instead of credit cards, unsecured personal loans and lines of credit can come in handy. But how does an unsecured loan work?

Secured or Unsecured?

Some loans are secured loans and are earmarked for a specific purchase. You buy a home with a mortgage loan, you purchase a car with an auto loan, and you pay for college with a student loan.  A personal loan can be used for just about anything and is generally unsecured.  So what does that mean? 

With a mortgage, your home is the collateral.  Similarly, with an auto loan, the car you buy is the collateral. Because a personal loan does do not offer collateral to secure the loan, the interest rates are usually a little higher, but can still be much better than the average rate on a credit card.

Personal Loans can be one of the quickest options to help with unexpected financial needs.  Since there is no collateral to be secured, they typically require little paperwork.

A personal loan comes with a fixed monthly payment that will run through a term that is usually five years or less.  Since it is a fixed-term loan, you will know that you are paying down your debt over time.  You won’t have the temptation to add to your debt like you might with a credit card or other type of line-of-credit loan.

Personal Loans are good for just about any purpose, and can take many different forms. Home repair loans can help pay for home improvement costs, vacation loans can help pay for your next big trip, and personal loans can even be used to cover things like education expenses.

Since the loan has a fixed payment and does not allow you to make additional credit advances, a personal loan is often used to consolidate and pay off credit card debt.

Plan ahead with a Personal Line of Credit

Another credit option is a Personal Line-of-Credit.  Personal lines-of-credit are also not secured with collateral and are offered to people with a strong credit history who not only have a strong credit score but also can demonstrate an ability to repay. 

A personal line-of-credit allows you to borrow only the money you need and offers a variable interest rate. Your payments will change from month to month depending on the outstanding balance on the line of credit.

With a personal line-of-credit, you have pre-arranged your ability to borrow.  When the need arises, you simply draw on your line up to the limit you have been approved.

Lines-of-credit work well for unexpected and recurring expenses.  Often people who work on commission or otherwise have irregular income, find that a personal line-of-credit can smooth out finances during those lower income months.   Even if you don’t use your line-of-credit, you may keep it just to have the extra funds for emergencies.

Personal Lines-of-Credit can be good for many of the same purposes as a personal loan like paying taxes due, medical bills, and to supplement your cash flow when you earn irregular income

Which option is best?

A personal loan is best suited for paying off a high-interest debt that carries a fixed interest rate and fixed monthly payment.  You receive the entire loan amount upfront, and it provides easy budgeting that can help you pay down high-interest debt at the end of the term.  Genisys Credit Union personal loans offer fixed interest rates over a fixed term, which allows a member to know precisely when their loan will be paid off.

Although some people will use a personal line-of-credit as a consolidation loan to pay off credit card debts, many financial consultants warn against it since you have the ability to continue to take advances on the line.  With each advance, you end up delaying paying off your debt.

If you have already maxed out all your credit cards and you're thinking 'Where can I go to get more money?' a personal line-of-credit is a bad idea.  If you're not disciplined enough to avoid borrowing more than you can reasonably pay back, skip the line-of-credit as it could lead to a financial disaster.

Impact on your credit score

One final point to consider when weighing a line-of-credit is the impact it will have on your credit score. In credit scoring, a personal line-of-credit is considered an open line-of-credit. 

If you haven't used it, it should help your available credit ratio and thus your score.  However, if you have used a high percentage of the line of credit, it could negatively impact your scores.

Applying for a Personal Loan or a Personal Line-of-Credit is quick and easy.  If you are not sure which would work best for you, feel free to stop into a Genisys branch, and one of our Member Service Representatives would be more than happy to discuss your options with you.

 

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Sources: creditcards.com
investopedia.com

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