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Secured vs. Unsecured Business Loans: What’s the Difference?
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Small businesses often need to secure funding through small-business loans, but not all loans are the same. For instance, unsecured loans don’t require collateral (and therefore have higher interest rates), while secured loans typically do require collateral, which means they can offer lower interest rates.
So which type of loan is right for you? You need all the facts—including the main differences between the two types of loans, lender requirements for each loan type, and pros and cons of each loan—to make the right choice. Below, we’ll dive into all the facts about secured vs. unsecured loans, including what loan amounts you can expect and how taking out a loan may affect your credit report.
Understanding secured and unsecured loans
Secured and unsecured loans both provide cash when you need it, but the differences are fairly significant.
Let’s start with the basics: a secured loan requires collateral. For example, if you take out a secured loan for $20,000, the lender may ask that you sign over a certain business asset as collateral until the loan is repaid. This usually means that if you don’t repay the loan, you’ll forfeit the asset to the lender.
In contrast, an unsecured loan does not require collateral. You can borrow the money without worrying that your assets will be repossessed or foreclosed upon if you cannot repay your debt.
Other key differences between secured and unsecured loans
While collateral is the main difference between the two types of loans, there are three other differences to keep in mind: personal guarantees, interest rates, and credit scores.
A personal guarantee is your promise to repay any money lent to you by a lender. Secured loans don’t generally require your personal guarantee. Unsecured loans may require your personal guarantee, though this is not the case for all lenders.
Your interest rate depends in part on which type of loan you take out. Secured loans tend to have lower interest rates because lenders know that you have collateral backing the loan. If you don’t pay, the lender can collect that asset to get their money back. As a result, they may offer a lower interest rate since the risk is lower.
On the other hand, unsecured loans don’t have collateral, so interest rates may be increased to reflect the greater risk to the lender.
Your credit score will be a factor in determining which type of loan you can take out. If you offer up collateral and take out a secured loan, the credit score requirements may be more lenient. With unsecured loans, expect to need a good credit history and score to show that you’re a trustworthy borrower.
Is a secured or unsecured loan right for your small business?
Secured and unsecured loans are quite different, so we wouldn’t say one is necessarily better than the other. However, if your business is new or doesn’t have a good credit history, a secured loan may be better for you.
With a secured loan, you can often qualify for a loan even if you have minimal or no credit history. Plus, you might be able to find loans that cost less over time thanks to lower interest rates.
Alternatively, small-business owners that have a good credit history may prefer unsecured loans, especially if they can get the same or better interest rate thanks to a high credit score. With an unsecured loan, you don’t have to worry about collateral or protecting your business assets from repossession by the lender if you default on the loan.
Small-business owners who know that they can pay back the loan quickly might opt to take out a short-term unsecured loan at a higher interest rate, compared to a secured loan with a longer term but lower interest rate. The exact loan you choose will be based on all the above factors as well as your ability to repay what you borrow.
There are some significant differences between secured and unsecured loans you should consider before borrowing. Depending on your business’s needs, you may want to consider a secured loan for lower interest rates and more flexibility, or you might like the unsecured option to protect the assets you already own.
To find the right secured or unsecured loan for your needs, check out Business.org’s reviews of the year’s best small-business loans.
Secured vs. unsecured business loans FAQ
What is better, a secured or unsecured loan?
Neither a secured nor an unsecured loan is better than the other, though one might be better for you than the other. Secured loans require collateral, putting assets on the line if the business owner defaults on the loan payments. However, unsecured loans may have higher interest rates.
Are most business loans secured or unsecured?
Most business loans are secured in some way, either through the use of collateral or your personal guarantee. So while you do have the option of looking into unsecured loans, the majority of the options available will be for secured loans of some kind.
Is a small-business loan secured, unsecured, or both?
Some small-business loans are secured, which means that they require collateral to balance the risk of lending to the small business. Some small-business loans are unsecured, meaning that there is no collateral involved. In a kind of mixed case, an unsecured loan may require a personal guarantee, which guarantees that the borrower will pay back what’s owed.
What does a secured loan mean in business?
Secured loans are loans that use a type of collateral to back what the small business owner borrows. The collateral might be some of the business’s assets, a vehicle, a property, or another belonging.
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