Mortgages are the most well-known secured loans in Canada. The pandemic sparked a demand for homeownership that caused a more than 40% increase in mortgage borrowing in 2021 compared to the previous year. However, a secured loan can also come in a car loan, credit card, line of credit, or other financial products.
Keep reading to learn more facts about secured loans in Canada.
In general, a secured loan is a loan where the lender has a legal claim against a borrower’s assets. For example, imagine that a borrower defaults on their loan. In that case, the lender can convert the borrower’s assets into a repayment.
These assets are called collateral. Lenders may ask for different kinds of collateral to secure various loans.
For example, you’d secure a home mortgage with the home you’re purchasing. If you’d like to know more about the spread of Canadian mortgages across major cities, look at the chart below.
A secured loan has a lower interest rate than an unsecured loan. This is because these loans are, by their nature, less risky. You might apply for a secured loan for bad credit for this reason.
The lender has collateral to fall back on if, for some reason, you cannot repay your loan. The collateral enables lenders to recoup their costs if you default on your payments.
Because a secured loan presents less risk to lenders, you can usually borrow a more considerable amount of money. Secured loans also typically have longer repayment terms. As a result, you’ll find your monthly payments are smaller with a secured loan.
In addition, secured personal loans are flexible. You can use the proceeds of a secured loan in any way you wish.
There is, however, an exception. If you’re using the loan to purchase an asset that will serve as collateral, you must use the funds exclusively for that purpose.
For example, you might wonder, “Are car loans secured or unsecured?” If you’re using the loan to purchase the car, the answer is usually, “It’s a secured loan.”
The top drawback of a secured loan is that you could lose your assets. You must put up some form of collateral to ensure your payments.
Collateral gives you the benefit of a lower interest rate. However, you could also lose essential things you own if you cannot fulfill your repayment obligation.
With this in mind, another drawback is that the loan amount directly correlates to the value of your collateral. Therefore, a lender must appraise your collateral to evaluate how much funding they’re willing to provide.
The lender will issue you a lump sum payment at the beginning of your loan. That payment will amount to equal or less than the value of your appraised collateral.
Business owners can also apply for secured loans. For instance, a lender might issue a line of credit to a business based on its accounts receivables and inventory. Entrepreneurs can also apply for small business loans using personal assets as collateral.
At times, a lender may claim a wide range of assets. Lenders call this kind of collateral a blanket charge.
Otherwise, a lender may claim specific assets. For instance, the lender might secure a loan with a piece of equipment or a business owner’s inventory.
There are several kinds of secured loan arrangements for businesses. These arrangements include:
These arrangements serve as a form of collateral.
With a collateral mortgage loan arrangement, a lender will have a claim on all company assets except for its buildings and land. A debenture arrangement involves an unsecured loan issued by a letter of credit based on a company’s fixed assets and floating values, including land and buildings.
In other cases, a lender might secure a loan with insurance. This insurance supplies a payout to the lender based on the assets of a company or the lives of the owners or managers.
Suppose you’re considering applying for a personal loan or line of credit. Maybe you want to make a significant purchase. In that case, you can choose between either a secured or unsecured loan.
Again, lenders will secure a loan or line of credit against your assets. As a result, you can borrow more money at a lower interest rate.
Conversely, the process for an unsecured loan does not require collateral. With this type of loan approval, you’ll receive funds faster.
Let’s look closely at the differences between secured and unsecured loans.
The top benefit of an unsecured loan is that you can receive funding quickly. There’s also less paperwork involved compared to a secured loan.
At the same time, however, it’s harder to get an unsecured loan. You’ll need a better credit score versus if you were applying for a secured loan. Remember, you’re not securing an unsecured loan with collateral or assets.
With an unsecured loan, you’ll most likely pay a higher interest rate than if you received a secured loan. Most often, borrowers apply for a secured loan for reasons like buying a car, minor home renovations, paying off medical bills, paying student loans, or consolidating debt.
Again, the most significant advantage of a secured loan is that you can access more funding than you can with an unsecured loan. This is because your collateral serves as security for the lender. At the same time, using collateral can make the process of receiving a secured loan take longer.
The lender must verify and process your collateral. However, your patience can pay off. After confirming your collateral, the lender can offer you a lower interest rate.
A borrower might apply for a secured loan or line of credit for an extensive home renovation or to consolidate numerous debts.
As a consumer, you may borrow money to buy something that will serve as collateral. For example, this scenario is often the case when borrowing money to purchase a car or home in Canada.
Otherwise, you might use one of your assets to borrow money for any reason that you desire. For instance, you could use the equity in your home as collateral for a secured loan.
Alternatively, you can use a vehicle you fully paid for or other valuable possessions as collateral. We’ll take a closer look at these kinds of loans in a moment.
It looks like the pandemic has people focusing more on long-term goals. Canadians are accumulating less credit debt and instead investing in homeownership.
If you’ve made payments on your home over time, you’ve built up equity. You can use the equity as a guarantee for a secured loan.
If you use this method, you must provide the lender with information about your mortgage. You’ll also need to give the lender details about your financial background. In addition, you must tell the lender why you want the loan.
The lender will provide you with a loan based on the amount of equity that you have in your home. They’ll also base the loan amount on how much they think you can afford to repay.
A credit builder loan is a way to help you set aside money. At the same time, it can help you rebuild your credit score. The lender will report your on-time payments to the credit bureau with credit builder loans.
However, a credit builder loan is very different from a traditional loan. You cannot access your funds until you’ve made all your payments.
Once you’ve made all your payments, you’ll receive a lump sum of cash. You can either place that money in savings or spend it as desired. With a credit builder loan, the fact that you’re making the payments before receiving funds serves as collateral.
With a car title loan, you can apply for a loan using the title of your car. This kind of loan will give you access to a line of credit.
Usually, a lender will give you as much as 50% of the value of your car with this kind of loan. Also, most lenders will require that you fully own your vehicle.
With a title loan, however, you must make your payments on time. If not, the lender can repossess your vehicle and sell it to recover losses.
You can also secure a loan at a pawn shop using your valuables. For instance, you may own a newer laptop or a valuable piece of jewelry. The pawn shop will keep your valuables until you repay the loan and interest.
With these kinds of loans, it’s important to remain wary of the interest rate. For example, suppose you could borrow $200 from a pawn shop for 30 days.
The pawnshop may charge $30 for every $100 that you borrow. This amount translates to 5% interest in a 25% storage fee.
However, let’s look at these charges from the perspective of the APR. Expressed as an Annual Percentage Rate (APR), these charges would amount to 365%. This amount is an extremely high interest rate.
Let’s have a closer look at APRs so you can see why they’re so important.
In Canada, lenders may use the terms interest rate and APR interchangeably. Unfortunately, this practice can confuse. This is because the interest rate and APR are two different things.
The interest rate is what the lender charges you for borrowing money. It’s a percentage of what you borrow, and lenders typically express this amount as an annual interest rate.
Meanwhile, the APR is the annual cost of the loan. It includes the annual interest rate and other fees you must pay. The APR and interest rate are the same if a loan doesn’t have additional fees.
Understanding APR is crucial because it gives you a broader view of how much it costs you to borrow money. This kind of information is also important to Canadians as the economy starts to recover in the wake of the pandemic.
Now, you know better how secured loans in Canada work.
However, if you apply for a secured loan, it’s good practice to have at least 10% in savings left over, even after any down payments. This is because you want to have a nest egg for any emergencies that may come up.
Still, there’s plenty more to learn about managing your money. So please feel free to browse and subscribe to our finance blog.
Once you have applied for a secured loan pre-approval, it’s not the end of the story. You should continue maintaining the same financial discipline. In particular, try not to make any major purchases, at least until the loan is fully approved. You should also not apply for any new credit or switch jobs if possible. In general, it is best not to show any major changes to your financial position from the time you applied for the pre-approval to the time of loan finalization.
Read the fine print very carefully when obtaining a new secured loan. Know whether the loan you are undertaking has a fixed or variable interest rate, and understand clearly what penalties or fees you will have to pay if you do not comply with the terms of the loan. Only once you are satisfied with each section of the credit agreement should you sign the loan. Remember that the stakes are much higher with a secured loan than an unsecured loan.