An unsecured loan is a loan that does not require any collateral to obtain. This differs from secured loans like mortgages and auto loans that are backed by your house or car as security.
If you’ve ever needed money for an unexpected expense but didn’t have valuable assets to put up as collateral, you may have considered an unsecured loan. Let’s explore what unsecured loans are, how they work, and whether they may be a good option for you.
With unsecured loans, the lender is taking on higher risk by lending money without an asset to seize if you default. As such, approval for unsecured loans is based primarily on your creditworthiness and ability to repay the debt.
Intrigued so far? Let’s delve deeper into the most common types of unsecured loans and how the process works from application to funding.
Different Types of Unsecured Loans
While mortgage, auto, and student loans often grab more headlines, there are a variety of other unsecured loan options you may not know about:
- Personal Loans – One of the most popular types, these provide lump sums ranging from $1,000 up to $50,000 with fixed rates and terms from 1-5 years. I used a $10,000 personal loan once to consolidate some high-interest credit card balances.
- Credit Cards – Revolving credit cards don’t require collateral and limits based on creditworthiness often range from $500 to $25,000. The downside is interest rates on cards are higher than other unsecured options.
- Medical Loans – These help borrowers pay for elective surgeries, dental procedures, specialized care, or other treatments not fully covered by insurance. Have you or someone you know ever used one?
- Payday Loans – While risky due to astronomically high rates, payday lenders provide small short-term loans without requiring collateral. In my opinion, these should only be a very last resort option.
Now that you know some of the most common unsecured loan varieties, let’s go over some key details on how they work.
Navigating the Unsecured Loan Process
If you determine an unsecured loan is your best borrowing option, here is an overview of what to expect:
Loan Amounts – Typically ranging from $500 up to $50,000. Your maximum amount will depend on factors like your income, existing debts, and credit history.
Interest Rates – Unsecured loans commonly have interest rates from 6% up to 36%, which translates into higher annual percentage rates of 10-40% when fees are included.
Loan Terms – Most unsecured loan terms are shorter than auto or mortgage loans, often ranging from 1-5 years. Some credit cards are open-ended without a set repayment term.
Approval Process – Approval is based primarily on your credit score, income, and current debt obligations. The lender will check the documents you provide to verify your financial situation.
Receiving Funds – Once approved, the loan amount will quickly be deposited into your designated bank account, often within just 1-7 days after signing the final paperwork.
The application process is meant to be streamlined and can be completed entirely online in many cases. If you have sufficient income and a strong credit score, approval can come quickly!
Now let’s compare unsecured loans with their secured counterparts. Have you taken out loans in both categories before?
How Unsecured and Secured Loans Differ
Unsecured and secured loans have some key differences:
Collateral – Secured loans require an asset like a house or car to back the loan in case of default. Unsecured loans rely solely on the borrower’s creditworthiness and ability to repay.
Interest Rates – Unsecured loans virtually always have higher interest rates, often 3-10% higher versus secured loans. This accounts for the increased risk without collateral for lenders.
Credit Score Requirements – You can often qualify for secured loans with lower credit scores starting around 600. Unsecured loans generally require very good scores of 660+.
Loan Amounts – Given the pledged collateral, secured loans provide larger borrowing limits, sometimes in the millions for mortgages. Unsecured loan amounts max out around $50,000 in most cases.
Loan Terms – Secured loans like mortgages and car loans can have terms of up to 30 years or 6-7 years respectively. Unsecured loan terms tend to be much shorter, with 5 years being the maximum duration.
Just looking around the text doesn’t help you right, here is the in-depth comparison between unsecured loans and secured loans in tabular format:
|Loans that do not require collateral or security
|Loans backed by collateral like property or vehicles
|Personal loans, credit cards, student loans
|Mortgages, auto loans, home equity loans
|Typically 6-36%; APRs 10-40% with fees
|Lower, often 3-10% less than unsecured equivalent
|$500 to $50,000 maximum for most
|Can be much higher with mortgages in the millions
|Credit Score Needed
|660+ in most cases
|Can qualify with scores around 600
|Loan Term Lengths
|1-5 years normally
|Up to 30 years for mortgages, 6-7 years for autos
|Based on credit score, income, debts
|Collateral is the key factor
|Can be used flexibly for any purpose
|Mortgages for home purchases, auto loans for cars
|Risks If Not Repaid
|Severe damage to credit score
|Mortgages for home purchases, auto loans for cars
In summary, unsecured loans make up for the lack of collateral with higher rates, smaller amounts, and shorter terms compared to secured options. But they offer more flexible qualifying criteria.
Now let’s go over some current rates and factors that impact pricing.
What Are Current Unsecured Personal Loan Rates?
Here is an expanded version of the current personal loan rates section with additional context:
What Are Current Unsecured Personal Loan Rates?
According to recent industry data aggregated on a weekly basis, the overall national average interest rate for personal loans decreased slightly this past week to 20.91%. (Last Update on October 11th, 2023).
This marks a minor 5 basis point dip from the previous week’s average rate of 20.96%. The movement down in the average comes after the rate had ticked upward in a similar fashion over the prior 7-day period.
On a broader scale, the average personal loan rate has briefly eclipsed 21% four separate times so far in 2023, peaking at 21.03% in late January. However, the overall average has quickly retreated back below this 21% threshold after reaching it.
Analysts attribute this to lenders competitively pricing rates to attract more borrowers in a cooling economy. While the Federal Reserve’s interest rate hikes are driving up the costs of borrowing, lenders are trying to limit drastic increases in personal loan rates to maintain market share.
When segmented by credit tier, this past week’s rate decrease was primarily driven by declines for borrowers with excellent, fair, and good credit of 77, 17, and 225 basis points respectively compared to the previous week.
In contrast, average rates for applicants with poor credit increased markedly by over a full percentage point week-over-week. This is after having dropped significantly, by over 3 percentage points, in the prior 7-day period.
Experts note that lenders tend to adjust rates more dynamically for lower credit tiers based on real-time default risk assessments. More minor rate fluctuations are observed for highly qualified borrowers with excellent credit.
The considerable rate jump for poor credit borrowers was unable to counterbalance the volume-weighted impact of decreases among other tiers. This ultimately led to a minor net decline in the overall national average.
Looking ahead, personal loan rates are projected to remain relatively stable in the near term around 20-21% absent any major credit market fluctuations or changes in broader Federal Reserve monetary policy.
Weighing the Pros and Cons
Before applying for an unsecured loan, it’s important to consider both the potential benefits and drawbacks:
- More flexible qualifying, especially for smaller loans, since collateral isn’t required
- Funds can be used for any purpose, whether it’s consolidating debt, home renovations, or emergency expenses
- Often a more affordable alternative to products like credit cards and payday loans
- Rates are almost universally higher compared to secured loan options
- Loan amounts are lower, usually capping out around $50,000 maximum
- Missed payments can badly damage credit since there’s no asset backing the loan
As you can see, unsecured loans come with advantages like flexible uses and accessible approval, but also stricter repayment requirements given the risks involved for lenders.
Tips for Getting Approved and Finding the Best Rate
As we’ve covered, unsecured loans can serve many borrowing needs thanks to their flexibility. Here are some tips if you’re considering applying for one:
- Check your credit reports and scores to understand your creditworthiness before applying
- Shop around and compare loan offers instead of just applying with one lender
- See if you prequalify with lenders first to find likely approval amounts and rates
- Consider having a cosigner with better credit on the application to improve your chances
- Ask lenders about discounts for setting up automatic payments from your bank account
Taking some time upfront to check your credit and find the best loan products will pay off with better rates and approval odds.
Let’s wrap things up with some final thoughts.
Unsecured personal and business loans can provide accessible financing for those who don’t have significant assets to leverage, making them quite popular. Approval is based primarily on your creditworthiness rather than collateral.
However, you’ll likely pay higher interest rates and receive smaller loan amounts compared to secured borrowing options. If you have good credit and qualifying income, an unsecured loan may be an affordable way to fund various needs from debt consolidation to home projects or unexpected expenses. Just be sure to only borrow what you can realistically repay to avoid damaging your credit.