An unsecured loan can be compared with a gas-filled balloon if the gas-filled balloon is given to kids at home then it is secure because even if the kid loses the balloon then balloon won’t go anywhere and will remain in the house only but if the same balloon is given to kid outside the house then that balloon becomes unsecured because the moment kid loses the hold of the balloon it will fly in the open sky. Unsecured loans are like gas-filled balloons given to the kid outside the house, it refers to that loan in which the lender has no security as these loans are taken by those borrowers who do not have any security to keep as collateral with the borrower and that is the reason why they carry a high rate of interest. In order to understand this concept better let’s look at some of the advantages and disadvantages of unsecured loans –
Advantages of Unsecured Loan
No Need for Collateral
The first and foremost advantage of an unsecured loan as far as the borrower is concerned is that under this type of loan there is no need for any collateral or security and for an individual who is in need of funds but does not have any security unsecured loan is godsend option.
Quick Approval
Unsecured loans get approved quickly as there is no need for any valuation of security and other such formalities which are normally associated with the security and hence if an individual is in emergency and in need of funds quickly then an unsecured loan comes to the rescue due to fast approval process of this type of loan as compared to secured loans which take longer time to get approved.
Boon for Bad Credit Score
If an individual has a bad credit score due to which majority of banks or financial institutions will reject the loan application then the only option for that individual is to go for an unsecured loan because the nature of an unsecured loan is such that a bad credit score does not come in the way of approval of an unsecured loan.
Disadvantages of Unsecured Loan
High Rate of Interest
The first and foremost drawback of unsecured loans is that they carry a very high rate of interest which results in the cost of funds getting very high for the borrower. A high rate of interest can be disastrous for the borrower if the borrower does not have supporting cash flows to repay the monthly installment of the loan.
Restrictions on Use of Funds
Another disadvantage of an unsecured loan is that due to the unsecured nature of this type of loan there are many restrictions on the use of funds as well as on the repayment of loan installments which implies that the borrower has to be disciplined as far as the use of funds and repayment of loan installments are concerned.
Risk of Default
As far as the lender is concerned the biggest drawback is the unsecured nature of these loans, as these loans are given without any security in case of default by the borrower the lender cannot recover the amount from the borrower by selling the security. It is due to this reason lenders charge a higher rate of interest on the unsecured loan as compared to secured loans.
As one can see from the above an unsecured loan has both advantages, as well as disadvantages, and any individual looking for taking this type of loan, should carefully analyze both benefits as well as limitations and then decide whether to take the unsecured loan or not.