Is a student loan secured or unsecured? Here’s what to know.
Millions of Americans pursue higher education every year, and a common way to pay for their educational expenses is by borrowing funds through a variety of potential loan options.
In many cases, students have the option to choose between federal loans and private loans. For students pursuing costly degrees, it’s typically possible to take out a combination of both federal and private loans.
Federal loans are loans distributed by the federal government and are widely available to students pursuing higher education. Congress sets the interest rates for federal student loans each year and they are often relatively low compared to private loans.
Private loans are loans offered by private banks and lending institutions. Typically, your interest rate and borrowing ability for private loans are limited by your credit history. Although, with a co-signer, you may be able to increase your borrowing capacity. Private loans used to pay for higher education can come in the form of secured or unsecured loans.
Let’s explore the difference between what it means for a loan to be secured versus unsecured.
Loans for higher education: Secured vs unsecured loans
Banks offer two categories of loans — secured and unsecured.
Secured loans for higher education
Secured loans are loans that require the borrower to provide an asset or collateral in exchange for the loan money. If the borrower fails to pay their loan, the bank can keep or sell the provided asset or collateral to satisfy the debt.
Examples of secured loans include cash out mortgage refinancing, home equity loans, or home equity lines of credit (HELOCs).
Believe it or not, home equity loans may be a lending tool for students pursuing higher education. While student loans carry relatively low interest rates, you may be able to secure an equally low (or lower) rate by using a home equity loan, so long as you meet certain lending criteria.
Secured loans, can be risky because failure to pay your loan could result in the loss of the asset or collateral you provided in exchange for the funds.
For example, if you were to obtain a home equity loan to pay for your educational expenses, your home would serve as collateral for the loan. This allows you to get competitive rates. Failure to pay your loan could put your home at risk. For this reason, you must consider whether you can meet your loan obligation terms before borrowing.
Take advantage of the benefits of a secured loan by planning ahead and beginning the application process early.
Unsecured loans for higher education
The second category of loans offered by private banks and institutions is the unsecured loan. Unsecured loans do not require the borrower to provide any assets or collateral in exchange for the loan. Obtaining an unsecured loan rests on your credit profile and personal financial details such as your income, credit score, and debt-to-income (DTI) ratio. Most educational loans are unsecured loans.
If you obtain an unsecured loan from the government, you will likely be assigned an interest rate that was set by Congress during that time. However, if you get an unsecured loan from a private bank, your interest rate will depend on your credit score and borrower profile.
Unsecured loans are good options for students who lack the assets or collateral necessary to obtain a secured loan. Most students seeking a way to finance their education can obtain unsecured student loans, and when required, may be able to leverage the assistance of a co-signer to get the funds they need to pay for school.
However, if you enlist the support of a co-signer, always be sure they understand what they are signing up for. Having a co-signer means that if you fail to pay your loan, your co-signer will be required to step up and be responsible for the payments.
This is a significant commitment, so make sure everyone involved understands what they’re agreeing to in this type of arrangement.
Which loan is better: Secured vs unsecured?
Both secured and unsecured loans are seen as debt on your credit profile. In fact, secured and unsecured loans impact your credit score in similar ways.
If you make late payments or default on either a secured or unsecured loan, both are reported to the credit bureaus.
While lenders may repossess the collateral you provide for secured loans, if your guarantee doesn’t cover the borrowed amount, lenders may be able to pursue any remaining debt in court. The same goes for unsecured loans.
So, which wins: Secured or unsecured Loans?
In reality, secured and unsecured loans are not necessarily good or bad. They are just different. The most important thing for you to consider is how the features and benefits of each category of loans will affect you.
If you are able to afford payments on a secured loan like a home equity loan, the benefits of comparably low rates might be a great opportunity.
On the other hand, if you need a loan, but don’t have collateral to offer in exchange for the loan, consider an unsecured loan. Just be sure to analyze your repayment schedule carefully and determine if your projected income will cover your expenses upon graduating.