Is a Small Business Loan Secured or Unsecured? Everything You Need to Know
Is a small business loan secured or unsecured? Either way, they can provide entrepreneurs with the necessary capital to start or expand their ventures. The money can be used to purchase equipment, inventory, or hire staff, among other things. By providing you with access to the funds you need, a secured or unsecured loan can help you realize your goals and grow your new business.
So before taking out one, you need to understand the differences between these secured and unsecured loans. That way, you can make an informed decision about which type best fits your needs.
In this blog post, we’ll explore what these two types of loans entail, how they differ from each other, and when one may be more viable than the other.
Secured Business Loans in a Nutshell
Secured business loans are loans that require collateral. By collateral, we mean any valuable assets pledged by the borrower to the lender as personal guarantee for the money. It can be a physical asset, such as real estate, equipment, or inventory. Or it can be financial assets like stocks or bonds. A typical secured business loan generally comes with lower interest rates and larger loan amounts. However, they also carry a greater risk of loss for the borrower if they’re unable to repay the loan.
Unsecured Business Loans in a Nutshell
Meanwhile, unsecured business loans are loans that are not backed by any collateral. This means the borrower does not have to pledge any business or personal assets as security for the money. Instead, the lender evaluates the borrower’s creditworthiness and financial stability to determine whether or not they’re eligible for the loan. An unsecured loan generally has higher interest rates, and it gives out smaller loan amounts compared to secured loans. However, they offer less risk to the borrower as they do not have to pledge any assets.
Main Differences Between Secured and Unsecured Business Loans
Now that you have the basic idea on what a secured or unsecured business loan is, let’s talk about the differences between the two.
As you may have observed above, the main difference between a secured loan and an unsecured one lies in the collateral requirement. Secured small business loans will ask you to provide collateral, while unsecured small business loans won’t. So the next time someone asks “Is a small business loan secured or unsecured?”, simply point this fact out.
However, there are other fundamental differences between the two, including:
- Risk. A secured loan carry a higher risk to the borrower since they must pledge assets as collateral. If the borrower defaults on the loan, they could lose their collateral. On the other hand, an unsecured loan is riskier for lenders since it entails no collateral to mitigate their risk.
- Interest Rate. A secured loan generally comes lower interest rates compared to unsecured small business loans, due to the lower risk on the lender’s part.
- Loan Amount. Secured loans generally entitles small business owners to higher loan amounts compared to an unsecured loan, since the collateral reduces the lender’s risk.
- Repayment Term. Secured small business loans often have longer repayment terms than an unsecured business loan, allowing borrowers more time to repay it.
- Application Process. A secured loan often has a more involved application process, as lenders must evaluate the specific collateral presented to determine its value, not to mention assess the borrower’s credit history and ability to repay the loan.
- Approval Timeline. A secured loan often comes with a longer approval timeline compared to an unsecured small business loan, due to the additional evaluation required by the lender.
- Eligibility Requirements. Unsecured loans often have stricter eligibility requirements, such as a higher credit score, a well-presented business plan, or longer time in business, since there is no collateral to mitigate their risk.
- Use of Funds. Secured loans may have restrictions on how the funds can be used, such as only being allowed to purchase specific assets.
- Prepayment Penalties. Some secured loans may come with prepayment penalties (which charge a fee if the borrower pays off the business loan early), while unsecured loans usually don’t.
- Default Consequences. If the borrower defaults on a secured loan, the lender can seize the collateral to recover the amount owed. With an unsecured loan, the lender can take legal action to recover the debt, but has no claim on any of the borrower’s assets.
- Credit Score Impact. Defaulting on a secured loan can have a more significant impact on the borrower’s credit score than defaulting on an unsecured loan since the loss of collateral represents a more significant financial risk to the lender.
Secured Vs Unsecured Loans: Which One is For You?
Now that you know the main differences between secured and unsecured loans, you might be wondering how decide between the two. So in this section, we’ll talk about when you should opt for unsecured loans and when you should go for secured loans instead.
Apply for a Secured Loan If..
- You have collateral to offer. If you have any assets you can present as as personal guarantee, such as a vehicle, property, or equipment, it may be wise to consider a secured loan instead of an unsecured loan to obtain the larger amounts of cash or the lower interest rates.
- You have a lower credit score. If you have a lower credit score, a secured small business loan may be a better option since lenders can use your collateral as security and may be more willing to lend to you.
- You need larger funding. If you need a larger amount or money, a secured loan may be a better option since lenders are more likely to offer a higher loan amount with collateral to secure the loan.
- You are willing to risk the collateral. If you are willing to risk losing your personal asset in the event of a loan default, a secured business loan may be a good option, as lenders offer lower interest rates in exchange for the security provided by the collateral.
- You want to build credit. If you have a limited credit history or want to build your credit score, a secured loan may be a good option since it can help establish a positive payment history and improve your credit score over time.
Apply for an Unsecured Loan If..
- You don’t have collateral to offer. Obviously, if you don’t have any personal assets to offer as collateral, then an unsecured loan may be the better option for you.
- You need a smaller loan amounts. If you just need a small amount of cash, unsecured loans may be the better option since lenders generally offer smaller loans without any specific collateral.
- You have a higher credit score. If you have a higher credit score, unsecured loans may be the better choice since lenders may offer you a lower interest rate based on your creditworthiness.
- You don’t want to risk collateral. If you don’t want to risk losing your personal or business assets in the event of a loan default, you should go for an unsecured business loan instead of a secured one.
- You want a simpler application process. Unsecured business loans typically come with a simpler and faster application process. If you want quick funding and less headache during the application process, then best go for it.
Secured Vs Unsecured Business Loans: Which is for You?
So back to the main question. Is a small business loan secured or unsecured? Which one is for you? To find out, read the article above.
Either way, both secured and unsecured loans are great for many small business owners who need funding for their ventures. The next time you find yourself short on money, best check out the best loan options near you and secure funding from them immediately.
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