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In case you take out a loan using your share funds as collateral, it classifies as a share secured loan. Share secured loans can be an invaluable tool in establishing or rebuilding your credit history.
You can also use them to consolidate your debts at a lower rate and to finance your purchases without actually dipping into your savings account.
Personal loans offer a flexible form of finance, as they can be used for practically any purpose. In this chart compiled from LendingTree consumer data, you can see that debt consolidation is the most common reason for taking out a personal loan. The least common reason is for home improvement. This is likely due to more advantageous products that can be used for home improvements such as home equity lines of credit.
What is a Shared Secured Loan?
A share secured loan is an indebtedness that uses the assets in a share account (mostly savings account, CD, or money market account) to guarantee a loan. Banks and credit unions accept them as collateral to back up a loan.
When you avail of a share secured loan, the bank or credit union freezes the commensurate funds within your savings account, but they will unfreeze them as you begin paying off the loan. The great thing about share-secured loans is that even if you have poor credit, you can easily get loan approval. This is because, on the lender’s part, there’s practically no more risk.
What’s more, they often feature a low fixed interest rate – ranging from 1% to 3% over the dividend or interest rate that the bank pays to savings accounts. Another helpful thing is that you can opt to use the interest that you will earn from your savings account to help offset the cost of your loan.
In addition, unlike a credit card, which has a variable interest rate, a share-secured loan usually has a fixed interest rate. That means your interest rate will not rise over time, giving you payment predictability and protection if interest rates rise after you take out the loan.
How It Works
In a share secured loan, the bank/credit union ‘holds’ the amount from your savings account that you want to borrow against. They often set the minimum at $200 to $500 while the maximum that they allow is between 80% to 100% of your share account balance.
The lender releases the proceeds by issuing a check to the borrower or, as is the common practice, by depositing the funds into the borrower’s checking account.
Payment will depend on your bank/credit union’s policies but often you have to authorize them to automatically deduct the monthly payment from your checking account, or directly pay the bank/credit union, or send them a check every month.
The release of the security will also vary according to the bank/credit union. Some will make the funds available in direct proportion to the loan principal that you pay off every month.
Other banks/credit unions will wait until you have paid your loan in full before they release your savings account. In any case, even while your funds are put on hold by the bank/credit union, they will continue to earn dividends.
Normally, lenders will charge a fixed interest rate for a share secured loan that you take in a lump sum so that your monthly payments will remain constant over time. You protect yourself against the interest rate risk that comes with a variable rate loan such as sudden payment increases.
A low rate will work in your favor for a long time because paying low for several years can help you save more money in your account. Also, you won’t have to worry if interest rates go up on other loan products. On the other hand, if you use a cash-secured credit card, the lender will use a variable interest rate.
When Will The Funds I am Using as Collateral Be Available For Me to Use Again?
As to when your savings account would become available again, well, the practice differs between banks.
Some credit unions and banks will release the funds in predetermined amounts according to a schedule when you make your monthly loan payments. Others will require that you finish paying off your entire loan before they lift the hold order on your account.
Your shares will continue to earn dividends even while your funds have been put on hold, regardless of your bank/credit union’s policy.
Why Use a Shared Secured Loan?
There are a lot of good reasons for using a shared secured loan instead of merely using the money you have in your account. These are:
It Helps Build Credit
If you have bad credit or you’re someone who is just starting to build one, these loans can help you tremendously to build your credit.
Each time you make your monthly payments or when you pay off your loan, the bank/credit union will report the transaction to the credit reporting agencies. And since these are positive actions, they will boost your credit score.
Always ask your lender to report your loan payments to the credit bureaus, and check if they do so by getting a copy of your credit report. Every year, you can get a free credit report from each of the major credit reporting bureaus that include Equifax, Experian, and TransUnion.
If you are trying to rebuild your credit, make sure that your loan achieves that purpose by:
- Make sure that your lender reports your payments to the credit bureaus because if they don’t, there’s no benefit on your credit scores.
- Verify that they are actually reporting the payments by checking your credit regularly – anyway, it’s free for U.S. consumers.
- Always pay on time because paying late will harm your credit and when that happens, you have to work harder to rebuild it.
Offset Your Loan Interest With Your Savings Interest
Suppose you’ve taken a share secured loan just to rebuild your credit, it makes perfect sense to pay as little interest as you can possibly can.
Well, you can cushion whatever interest expense you will pay through the interest you will earn from your savings account. Good financial sense dictates to borrow and pay interest only if you are going to receive other benefits.
Remember that while your loan is outstanding, your bank/credit union will keep your money in the savings account on hold. If your lender allows it, you might be able to use some of the amounts that correspond to whatever you have partially paid off.
But in the meantime, whatever you’ve left in your account will continue to earn interest. It would definitely be a lot less than what you’re paying for your loan, but it will help.
Loan For Any Purpose
Some lenders grant on-the-spot approval for a share secured loan.
Your bank/credit union just needs to check how much you have in your savings, approve the loan and put a hold instruction on the funds you’re using as collateral for your loan.
Some loan products have specific purposes such that you can only use the proceeds for those purposes. For example, you can only use auto loans to purchase vehicles. A share secured loan is more flexible because you can use it for almost anything.
Here’s a piece of advice though: use it only to pay for something that you really need.
Get Better Loans in the Future
Yes, you will pay more interest than what you will earn, but you can reap other advantages from the loan such as improved credit and psychological benefits.
This could set you up for a bigger and better variety of loans in the future to finance your house or car, or probably even your own business.
Think about it: you can have better credit and have more cash on your account because you’ve preserved your savings account.
You can use the cash for a large down payment for your house and your good credit can help you negotiate for a better rate on those larger loans. The lower rate can reduce your total interest costs in the long run.
Protects Your Savings
If you’ve been trying all your life to build some savings without much success, a share secured loan could be the right solution. The loan ‘forces’ you to discipline yourself to rebuild your savings through your loan payments.
Ideally, at the end of the term, you will have enough cash reserves on your savings account that you can keep on using as security should you need them again.
How to Get a Share Secured Loan?
Having your savings act as collateral typically means that banks are taking very little risk. As a result, they're more willing to approve your application if you have poor credit or lower income than usual.
1. Find a Lender
Share-secured loans aren't widely available, but they are available if you look for them. They're more common at credit unions, but check the membership requirements carefully because you may not be able to join all credit unions (and thus, you may not be eligible for all share-secured loans).
If you already have a credit union membership, see if they offer share-secured loans.
2. Understand Requirements
In a share secured loan, you are basically borrowing your own money. Therefore, the lender doesn’t focus on the credit aspect of the loan to grant approval. This means that they will not turn you down based on a poor credit score or lack of credit history.
However, they will still consider these factors when computing for your interest rate and loan amount.
Other requirements may include:
- Your membership with the bank/credit union
- Meeting the minimum share account balance
- Your consent to disclose the purpose of the funds for any loans over $10,000, per the Bank Secrecy Act.
A share-secured loan, unlike other types of loans, does not require a credit check to be approved. Because you're technically borrowing from yourself rather than a bank or credit union, your eligibility may be determined more by the amount of money in your savings account.
3. Deposit Funds & Submit Your Application
Now, it's time to open an account and deposit your savings after you've found the right lender and understand its requirements. The lender will be able to advise you on which type of account to open, whether it's a savings account, CD, or money market account.
Depending on the requirements of the bank or credit union, approval for a share-secured loan may be quick. You apply for the loan, and the lender verifies your savings and approves your loan request.
Alternatives to Share Secured Loans?
There are several alternatives to share secured loans. The financial product that is most similar is a secured credit card. These are attached to a deposit account, with your credit limit being determined by your deposit account balance. Should you fail to make the repayments, the funds are simply taken from your account.
Another alternative is a credit builder loan. This works in a similar way to a share secured loan, but you need to pay off the loan before you are able to access the funds. Your lender will deposit the loan funds into a savings account and when the loan has been paid off, you can access the funds.
Finally, you could consider a secured personal loan. These types of loans are backed by an asset that you already own. For example, you could use your car, RV or other property as security for your loan. If you default on your loan payments, the lender has the option to recoup its losses by seizing your property.
With a secured personal loan, you must still provide some type of collateral to the lender, though it does not have to be cash savings. You might be able to secure a loan with a car title, a piece of property you own, or an investment, for example. Secured loans may have lower interest rates than unsecured loans because you reduce the lender's risk, but you risk losing your collateral if you default, just like with a share-secured loan. An unsecured loan eliminates that risk, but expect a higher interest rate to compensate for the lender's increased risk.
Can I Get a Personal Loan Instead?
Lenders look at the same factors when considering you to get a loan — credit score and income – but each company has its own underwriting requirements. Personal loan lenders consider your credit score the most important. It reflects your ability and willingness to pay off debt. A strong credit history will increase your chances of being pre-qualified. To keep your debt down, pay your bills on-time, keep your balances low, and try to repay your credit card balances each month in full. A relationship with the lender (bank or credit union) may increase your chances of approval.
It's a good idea to compare rates with at least three lenders in order to get the best terms and rates. For example, you might compare the products offered by your local credit union to personal loans offered by a bank or an online lender that lends nationally. Other options include peer-to-peer lenders such as Prosper or Upstart. You should make sure that you are dealing with a reliable lender that offers low rates.
Personal loans from credit unions can be a good option if you are worried about your credit score. They may offer low rates and flexible terms that will allow you to qualify for a loan.
Online lenders also offer personal loans for people with bad credit. To help you qualify, these lenders will also consider your education and work history. They typically have higher rates so loans will be more costly. Even if your application is approved quickly, it is smart to compare personal loan offers. This will allow you to find the best personal loan offer for your situation and the lowest interest rate.
In this chart compiled with LendingTree customer data, you can see that those with a 720+ credit score pay an average of 7.63%. At the other end of the scale, for those with a poor credit rating of less than 560, the rate shoots up to an eye-watering 113%.
While signature loans are unsecured finance that you can often qualify for with sufficient income and a good credit history, if you have bad credit a shared secured loan is likely to be a better option. Rather than being an unsecured loan, a shared secured loan uses the balance in your savings account to back up the loan.
Should you default on the loan, the lender can recover the loan balance from your savings. This can help you to rebuild your credit score, as you have a better chance of qualifying, since there is less risk for the lender.
Share secured loans are a good option for those who have money in savings, yet who have too low a credit score to qualify for a conventional personal loan.
Since you’re using your savings for the loan, you can build your credit score with little to no risk. Each time you make a monthly payment on the loan, it will be reported to the credit bureaus, boosting your credit profile.
Since you are essentially borrowing from your own savings, qualifying for share secured loans is usually quite simple. Your savings or investment account will be used as collateral for your loan, so your credit score usually does not matter. However, your credit score may influence the interest rate of your loan.
Each lender has its own rules for share secured loans, with some allowing you to borrow the full amount of your savings account balance, while others only allow you to borrow a percentage.