When approaching lenders for a loan, having collateral has proven to have a higher loan acceptance rate than not having any collateral at all. Collateral not only allows individuals and businesses to borrow money easily, but it also has non-financial leverages that can be used.
The term collateral is used loosely in many fields; it is helpful to understand the meaning of a subject before discussing it. Let us first define collateral before explaining how it works and the different types of collateral to be aware of.
Collateral is an asset that a borrower offers to a lender as security for a loan. Collateral can take many forms, including real estate, stocks, and other assets deemed valuable by a lender in order to secure a loan. The borrower and the lender reach an agreement in which the borrower pledges his or her asset(s) to the lender in order to secure a loan.
If the borrower fails to repay the loan in accordance with the loan agreement, the borrower will forfeit the asset to the lender. The lender then has the right to seize the borrower’s asset and sell it in order to recoup some or all of the transaction’s losses.
When lending money to individuals or businesses, lenders may require some form of security. When applying for a business or personal loan, lenders may request collateral due to economic, social, or political factors. If the borrower fails to make a repayment, the lender wants to ensure that they get something out of the loan.
Before a loan can be granted to a borrower, a lender will require an asset to be pledged as collateral. The lender will want the asset(s) in order to reduce the risk of issuing a loan. The borrower will also bear the risk of taking out such a loan in the event that he or she fails to make repayments and their assets will be seized. The borrower will then be forced to meet the financial obligations that have been established.
Collateral has evolved over time and now comes in a variety of forms. Today, one can obtain a loan without pledging any assets; rather, the collateral, in this case, will be expected future income. For example, the borrower can take out a loan of R100,000.00 repayable in 12 months with R20,000.00 and not put down any deposit; however, the borrower’s salary will be used as collateral, and R10,000.00 will be deducted from his/her account on a monthly basis.
Other forms of collateral include the purchase of a car or a home. Nowadays, it is extremely unlikely for a bank to request assets as collateral. However, pledging collateral over a loan can result in lower interest rates and better repayment terms.
Lenders in South Africa accept a variety of collateral types. Acceptance of Collateral is dependent on the type of guarantee issued against the loan. The following are some examples of acceptable collateral:
Collateral is an asset that can be used for financial gains without losing that asset if the requirements of a loan agreement are met. Take caution when taking out loans that require collateral, and only take out loans that you can truly afford, as you may lose your asset.