Definition:
A secured loan is a loan backed by collateral—something of value the borrower agrees to give the lender if they fail to repay the loan. In real estate, the most common secured loan is a mortgage, where the home itself is the collateral.
Example:
Lena takes out a mortgage to buy her first home. The bank agrees to lend her the money, but if she doesn’t make the payments, the bank can take the home through foreclosure. This is a secured loan because the house backs the loan.
Explanation:
Secured loans reduce risk for lenders because they have a claim on the borrower’s asset if the loan goes unpaid. In a real estate transaction, the property purchased is the asset that secures the loan. If the borrower defaults, the lender can legally take ownership of the home to recover the money lent—this process is called foreclosure.
Other types of secured loans in real estate include:
- Home equity loans
- Home equity lines of credit (HELOCs)
- Second mortgages
Lenders typically offer lower interest rates on secured loans compared to unsecured loans (like credit cards or personal loans) because there’s less risk involved.
Before a loan is approved, the lender will evaluate the value of the property (collateral), the borrower’s credit, income, and debt-to-income ratio to ensure they’re capable of repayment.
Why is Secured Loan Important in Real Estate Transactions?
Secured loans make it possible for buyers to afford homes by borrowing large amounts of money with relatively low interest rates. For lenders, the property offers protection in case of default. Understanding secured loans helps buyers recognize the responsibility that comes with borrowing and the importance of keeping up with payments to protect their home.