What is a Collateral Loan
A collateral loan is a type of low interest loan where in the creditor has to pledge an asset of more value than that of the loan in order to secure the claim of paying off the loan taken. Such loans are given by banks or other financial institutions to people if there loan amount exceeds a certain limit set by the central bank of that country. In such a loan, the person taking a loan has to pledge a certain asset of his own like house, car, future incomes, insurance policies or even his investments. In order to be on the safer side, the lender generally doesn’t offer the loan amount equal to that of the value of asset in the consideration of depreciation of the value of asset with time for example if you have an asset like car worth thirty thousand US dollars and you plan to pledge it for a collateral loan, the bank of the financial institution will offer you a loan amount of around twenty thousand US dollars to be sure of the return.
In case the borrower is unable to pay-off the amount in the specific time period mentioned before then the lending party has the right to sell off the collateral in order to obtain its money back known as the foreclosure, and if suppose selling off the asset still doesn’t pay off the full amount of the loan then the creditor is liable to pledge more of his assets to pay off the balance amount. The most common type of the collateral loan is the mortgage loan where in the borrower pledges his property like house against the loan he has taken, the other type of collateral loan is the nonrecourse loan in which the creditor has rights to claim only against the pledged property of the borrower and if in case of selling off the asset doesn’t repay the whole amount of loan then the creditor can’t recourse any further for any type of the balance that is left. In order to avoid such situations the lender always gives a loan lesser than the value of the asset taken as pledge.
At times the collateral loan is offered along while buying the collateral itself like an insurance company and a financial institution might give you a loan against the policy that you take from the insurance company, it also happens in case of purchase of automobiles where in the loan is given against the very automobile you buy from the loan amount.