Everything you need to know about secured equity loans – Forbes Advisor
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If you need to take out a loan but don’t meet the minimum qualifying requirements, you could find yourself in a tight spot. Secured equity loans help solve this problem by providing fewer qualifying requirements, which can help you get a loan to develop your credit. While they’re a great option for borrowers with bad credit, they come with their own restrictions, which we’ll help you clarify.
What is an equity loan?
A loan secured by shares is a secured loan who uses the funds in an interest-bearing account – savings account, certificate of deposit (CD) or money market account — as collateral. Because the money in your account secures and secures the loan, if you fail to meet your repayment obligations, your bank or credit union can repossess the money in your account to recoup its losses.
Secured loans make transactions for banks and credit unions less risky because collateral ensures that they can get their money back one way or another. Due to this risk mitigation, secured loans usually have fewer qualifying requirements which makes the application process easier on your end. Some lenders don’t even check your credit until they can verify that you actually have enough savings for the loan.
You may have heard of an Equity Secured Loan by another name, including Savings Secured Loan, Cash Secured Loan, and Passbook Loan. They are all the same.
How do secured equity loans work?
Since savings-backed loans use the money in your interest-bearing account as collateral, you will need a savings account, CD or money market account with money to start. Whichever account you use, when you apply for a loan secured by stocks, you agree to pledge that money to the bank while you pay off the loan.
When it comes to loan limits, you are usually limited to borrowing a percentage of your savings account. However, banks and credit unions may set different limits; you will usually see a minimum loan amount between $ 200 and $ 500 and a maximum amount between 80% and 100% of your balance.
Banks and credit unions also charge interest on these passbook loans. They typically set a fixed rate by adding 1% to 3% to the Annual Percentage Return (APY) of your account. For example, if your interest-bearing account earns 1% APY, the interest you will pay on your secured equity loan will vary from 2% to 4%.
After the lender issues the funds, the money in your account is put on hold so that you cannot access it. You will make fixed monthly payments over a period of five to 15 years, depending on your lender and the terms they offer. You will be able to access your funds again when you pay off your loan.
Although your funds are frozen while you pay off the loan, your account will continue to earn interest. However, since the interest rate on your secured equity loan is 1-3% higher than your APY, you will pay more interest than you earn.
Why should you use a secured equity loan?
At first glance, it seems a bit silly to borrow a large amount of money when you already have saved so much on your account. But the main reason for using a secured equity loan is to build credit. If you don’t have credit yet or if you’ve made a few mistakes in the past, a secured equity loan can help get you started.
After all, most other types of loans require you to have good credit to qualify. it is possible to find bad credit loans (scores as low as 580), but they will usually be very expensive and your qualification is not guaranteed. Equity-backed loans provide an easier way to access credit.
How to get a secured equity loan
- Save money: Secured cash loans allow you to borrow against the money you already have. You will need to make sure you have some cash aside that you can use as collateral for your loan.
- Find a lender: Equity secured loans are not widely offered, but they are there if you are looking for them. They are more common at credit unions, but be sure to pay attention to the membership requirements, as you may not be eligible to join all credit unions (and therefore, you may not be eligible for all equity secured loans) . If you are currently a member of a credit union, check to see if they offer equity-backed loans.
- Compare prices: If you have several options to choose from, ask for a quote. Make sure they make a soft credit draw if they check your credit to protect your score.
- Deposit your money: When you find the right lender, it’s time to open an account and deposit your savings. The lender will be able to tell you what type of account you should deposit your money into, whether it is a savings account, CD, or money market account.
- Apply for a loan: Once your account is open, you can complete your loan application. If you are approved, you will receive your funds and your account will be frozen until you pay off the loan.
- Sign up for automatic payment: This step is optional but strongly encouraged. The main reason for taking out a secured equity loan is to create credit, and the most important factor that builds up your credit score is your payment history. Making even one late payment can completely derail your efforts. Signing up for auto-pay avoids this by making sure all of your payments are on time.
Alternatives to loans guaranteed by savings
Secured equity loans help you create credit, and they help you do it for less. But they are not the only option you have. Review these alternatives before applying for an equity loan.
If you haven’t made any money yet (and a lot of us don’t), a little credit builder loan might be a better option for you. These loans are unsecured by nothing, so they may come with a higher rate of interest. As with equity-backed loans, you may be more likely to find them at a credit union rather than a bank.
Secured Personal Loan
If you have something of value but not necessarily a savings account, a Personal loan might be a better option for you. It works very similar to an equity loan, except that you are using something else as collateral, usually a vehicle, such as a car, boat, or motorhome. You can get personal loans from banks, credit unions or online lenders.
Secured credit card
Finally, another good choice is a secure credit card. Secured cards have credit limits equal to a cash deposit you made and held in a security account. As long as you make all of your payments on time, opening a secured card can help you develop your credit because it shows creditors your ability to manage your debts responsibly.