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Unsecured Loans: Basic Tips to Keep in Mind

Are you confused about whether you should take a personal loan for the next vacation abroad? Do you know what you put at stake when you miss your credit card payments? Here we share some basic information on unsecured loans and highlight some tips for you to keep in mind.

What is an unsecured loan?

An unsecured loan is a type of loan where you are not required to offer the lender any security or collateral. For instance, when you take a personal loan, you do not need to offer any collateral against the loan. These types of loans have no restrictions on end use, and hence are flexible in terms of usage.

On the other hand, some loans are secured loans where you are required to offer a security to the lender. For instance, when you take a loan to buy a house or a car, you offer the lender the house or car as security. Further, these loans usually have a restriction on end use.

Different types of unsecured loans

• Personal loan: A personal loan is an all-purpose loan. In theory, you could use this loan for different purposes ranging from funding your vacation to buying the latest cell phone. For instance, Saurabh can take a Rs. 3 lakh personal loan to pay for a wedding in the family, a vacation abroad, or to buy furnishings for his new home.


• Credit card: You can use your card to buy products and services, but then have a monthly obligation to pay this "loan" back to the lender. This is a small plastic card issued to customers who use the card to buy products and services based on the customer's obligation to make monthly payments. You can use your credit card for shopping, paying at a restaurant, or to withdraw cash.


• Loan against credit card: Sometimes you can also get a loan against a credit card, if the card issuer offers this facility.

Interest rates charged on unsecured loans are as follows

When can you take an unsecured loan?

Whenever you take a loan, you are creating a liability and an obligation. So, you must be comfortable that going forward you can financially handle this liability.

1. Ability to repay the loan quickly: Whatever be the circumstances, as a borrower, you should be confident of your ability to meet timely repayments on the personal loan or the credit card. If payments are missed, you will be charged penalties and the lender may even block your credit card.


2. Short-term funding: If you have an urgent need for money, and are confident that you can pay it back quickly, you might consider a personal loan.


3. No other source of funding: If you do not have any savings or financial backing from work, family, and friends, you might consider a personal loan or using your credit card. For instance, if there is a wedding in your family and you need some additional funds for the events that you cannot get from say another family member, then you can consider a personal loan if you are confident of paying it back soon enough.

What are the risks involved in personal loans and overusing a credit card?

• Debt trap: You may fall into a debt trap where you are forced to borrow new money to pay off old loans.


• High interest rates: As the borrower gives no collateral to the lender, the lender charges a high interest rate.


• Credit history: Credit history or an individual's past borrowing and repaying record is what the lender checks on before approving a loan. If borrowers do not meet the timely repayments, or abusing the use of their credit card, they risk ruining their credit history.

Tips to remember

1. If possible, avoid taking personal loans: The first rule is to avoid taking a personal loan unless you are sure that you can pay it back on time.


2. Pay back credit card dues on time: Make sure that when you transact using your credit card,you make timely payments on it to ensure a clean credit history.


3. Negotiate, negotiate, negotiate: Since it is a competitive market, the interest rate charged by different lenders on personal loans and credit cards varies widely. Therefore, it is important to negotiate on your personal loans and look out for the best credit card deals possible.


4. Beware of penalties: When taking an unsecured loan, you don't put up any security. If you are late or default on a repayment, the financial penalties can be very high. You will also end up ruining your credit history.

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