When is an unsecured loan not an unsecured loan?

If you need a large sum of money but don’t have a savings pot to draw from, chances are you’ll be considering whether you could borrow the cash.

Homeowners who have built up some equity in their properties will have two choices – a secured or unsecured loan.

With secured borrowing, sometimes referred to as a homeowner loan, the debt is guaranteed by your house or flat. If you fail to meet your repayments, the provider has the right to repossess the property in order to recoup the money it lent you.

An unsecured loan is what it sounds like – it is not secured against the equity in your property, so you are not at risk of losing your home if you default. At least, that’s the idea.

In fact, if you default, your loan provider can ask the court to issue a charging order, which effectively secures the debt against your property.

The Citizens Advice Bureau (CAB) has warned that more and more lenders are using this little-known tactic against borrowers who fall into difficulties.

What is a charging order?

A charging order effectively transforms an unsecured debt into a secured debt.

If you are unable to keep up with your repayments, the loan provider has the right to apply to the courts for an order of sale and force the home to be sold in order to recoup their money.

This means failing to keep up payments on an unsecured loan or credit card could kick off a process that sees the borrower eventually lose their home.

The CAB is keen to reiterate the fact that an unsecured loan provider applying for a charging order is still a rare occurrence but it’s one that’s on the up, having risen more than 700% since 2000 (albeit from a very low base). And the charity is concerned that case numbers could rise steeply because an increasing number of people are defaulting on loans so lenders are under more pressure as they seek to minimise their own losses.

Healthy concerns

Because there is no set minimum at which debts can be subject to a charging order, it could be technically possible for relatively small debts to cause forced sales.

Tim Moss, head of loans and debt at moneysupermarket.com, urges would-be borrowers to go into any debt agreement with their eyes open. He said: “Unsecured loans don’t carry ‘health’ warnings. However, with bad debt levels rising, more mainstream lenders are looking to gain charging orders to obtain their monies back.

“Consumers wrongly believe that you can simply walk away from unsecured debt leaving the lender no other route than to apply to the courts to have a CCJ placed on the debtor. Not anymore.”

To secure or not secure?

So what does this mean for the homeowner looking to borrow some cash? Well, to an extent it starts to reduce the differences between secured and unsecured loans, as there is no way of completely protecting a property.

Despite that, lenders still feel a secured loan gives them more protection. As far as the consumer is concerned, it can be easier to get more money, better rates and a longer repayment period.

The amount a person can borrow through an unsecured loan is capped at £25,000, but in the current climate, many lenders are nervous about offering more than £10,000 unless there is a property to secure it against.

Moss added: “It’s really important to remember that a secured loan makes it much easier for a lender to force the sale of your home if you do not keep up repayments. But that doesn’t mean an unsecured loan is always a better option, particularly as lenders have the right apply for a charging order.

“The key thing before you enter into any borrowing arrangement is to be confident you can afford the repayments. Obviously there are certain things that are beyond your control which can have massive implications for your financial situation such as losing your job or falling ill. But never take on more than you can afford to repay – if you know it will be a struggle to keep up with your repayments, don’t borrow the money.”

What are the best secured deals just now?

If you are confident that a secured loan is the right choice for you, then you may want to consider moneysupermarket.com’s Blackhorse Personal Finance exclusive. The top rate is 7.9%, while the typical annual percentage rate (APR) is 11.9% and this deal is available for loans between £10,000 and £40,000.

Another secured option for anyone with a fair or poor credit rating, is an Ocean Finance loan at a typical APR of 16.9% but with rates as low as 10.2% on offer to customers with the best credit scores.

Ocean Finance can arrange loans of between £5,000 and £100,000.

A key thing to remember with secured loans is that the amount you will be able to borrow will depend on the amount of equity you have in your house – just because a provider will offer loans up to £100,000, it doesn’t mean you’ll be able to borrow that much. The lender will look at the size of your existing mortgage against the property’s value – this will determine how much it will advance.

Often, secured loan providers cap the maximum you can borrow against your house at around 70% of the value (this will include both the loan and your existing mortgage). This will preclude many people from qualifying for a secured loan, particularly given recent house price falls, as millions of homeowners have seen the equity stake they have in their home drop significantly.

What about unsecured borrowing?

While it may be harder to qualify for the top unsecured rates at present, there are some competitive options available if you do.

Sainsbury’s Bank’s personal loan offering has a headline rate of 7.9%. To borrow with Sainsbury’s, customers do have to have a Nectar card, but it takes just a few minutes to get one, either online or in the supermarket itself – and they’re free.

Nationwide is also offering typical APR of 7.9% but only to existing customers, while Alliance & Leicester’s best rate is 7.9%, through moneysupermarket.com, for loans between £7,500 and £15,000.

It’s worth bearing in mind that you may not qualify for a lender’s most competitive deal – it depends on your credit history. Applicants with less than perfect credit ratings still have options open to them but they will be more costly: UCC loans is offering a typical APR of 17.9%.

Don’t forget, making a series of applications at once can harm your credit rating. You can find out what products and rates you are likely to be accepted for using the moneysupermarket.com SmartSearch tool, which takes some details in order to gain an idea of your credit score.

If your credit rating isn’t great, there are steps you can take to improve it, and therefore improve your chances of being accepted for a loan, read Peter Harrison’s article ‘How to improve your credit score’.

Disclaimer: Please note that any rates or deals mentioned in this article were available at the time of writing. Products underlined can be applied for directly.

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