A secured loan is a loan in which the borrower pledges some asset (e.g. a car or property) as collateral for the loan, which then becomes a secured debt owed to the creditor who gives the loan. The debt is thus secured against the collateral, and if the borrower defaults, the creditor takes possession of the asset used as collateral and may sell it to regain some or all of the amount originally loaned to the borrower. An example is the foreclosure of a home. From the creditor's perspective, that is a category of debt in which a lender has been granted a portion of the bundle of rights to specified property. If the sale of the collateral does not raise enough money to pay off the debt, the creditor can often obtain a deficiency judgment against the borrower for the remaining amount.

The opposite of secured debt/loan is unsecured debt, which is not connected to any specific piece of property. Instead, the creditor may satisfy the debt only against the borrower, rather than the borrower's collateral and the borrower. Generally speaking, secured debt may attract lower interest rates than unsecured debt because of the added security for the lender; however, credit risk (e.g. credit history, and ability to repay) and expected returns for the lender are also factors affecting rates.[1] The term secured loan is used in the United Kingdom, but the United States more commonly uses secured debt.

Purpose

There are two purposes for a loan secured by debt. In the first purpose, by extending the loan through securing the debt, the creditor is relieved of most of the financial risks involved because it allows the creditor to take ownership of the property in the event that the debt is not properly repaid. In exchange, this permits the second purpose where the debtors may receive loans on more favorable terms than that available for unsecured debt, or to be extended credit under circumstances when credit under terms of unsecured debt would not be extended at all. The creditor may offer a loan with attractive interest rates and repayment periods for the secured debt.[2]

Types

UK secured loan market

Before the global economic crisis of 2006, the Financial Services Authority (FSA) estimated that the UK secured loan market had a net worth of £7,000,000,000. However, following the close of Lehman Brothers' sub-prime lender BNC Mortgage in August 2007, the UK's most prominent secured loan providers were forced to withdraw from the market.

UK secured loan market timeline (following the global credit crisis)

United States law

The United States is the global leader in security interest law with respect to personal property; in the 1940s, it was the first country to develop and enact the notion of a "unified" security interest. That concept has since spread to many countries around the world after it became evident that it is one of the reasons for why the United States has the strongest economy in the world.[dubious – discuss][citation needed] For example, to raise money, American ranchers could pledge personal property like cattle in certain ways that historically were impossible or very difficult in Uruguay or most other developing countries.[7] However, US law with respect to security interests in real property is still[when?] extremely chaotic and non-uniform. The Uniform Law Commission in the 1970s and 1980s worked hard to develop uniform acts to clean it up but the project was a catastrophic failure.[8][9][10]

In the case of real estate, the most common form of secured debt is the lien. Liens may either be voluntarily created, as with a mortgage, or involuntarily created, such as a mechanics lien. A mortgage may only be created with the express consent of the title owner, without regard to other facts of the situation. In contrast, the primary condition required to create a mechanics lien is that real estate is somehow improved through the work or materials provided by the person filing a mechanics lien. Although the rules are complex, consent of the title owner to the mechanics lien itself is not required.

In the case of personal property, the most common procedure for securing the debt is regulated under Article 9 of the Uniform Commercial Code (UCC). This uniform act provides a relatively uniform interstate system of forms and public filing of documents by which the creditor establishes the priority of their security interest in the property of the debtor.

In the event that the underlying debt is not properly paid, the creditor may decide to foreclose the interest in order to take the property. Generally, the law that allows the secured debt to be made also provides a procedure whereby the property will be sold at public auction, or through some other means of sale. The law commonly also provides a right of redemption, whereby a debtor may arrange for late payment of the debt but keep the property.

How secured debt is created

Debt can become secured by a contractual agreement, statutory lien, or judgment lien. Contractual agreements can be secured by either a purchase money security interest (PMSI) loan, where the creditor takes a security interest in the items purchased (i.e. vehicle, furniture, electronics); or, a non-purchase money security interest (NPMSI) loan, where the creditor takes a security interest in items that the debtor already owns.

See also

References

  1. ^ Gerard McCormack (2004). Secured credit under English and American law. Cambridge University Press. pp. 16–. ISBN 978-0-521-82670-9. Retrieved 13 December 2011.
  2. ^ Unsecured Business Loans Guide
  3. ^ "FCA takes over regulation of consumer credit firms". Financial Conduct Authority. 1 April 2014. Retrieved 2 May 2019.
  4. ^ "Mortgage Credit Directive". FCA. 22 August 2017.
  5. ^ "Latest Consumer Finance Statistics". Finance & Leasing Association. Retrieved 14 July 2022.
  6. ^ Grundy, Marie (13 July 2021). "Blog: Things are looking up for second charge after testing times". Mortgage Strategy. Retrieved 14 July 2022.
  7. ^ Heywood Fleisig, "Secured Transactions: The Power of Collateral," Finance and Development, 44–46.
  8. ^ Marion W. Benfield, Jr., Wasted Days and Wasted Nights: Why the Land Acts Failed, 20 Nova L. Rev. 1037, 1037–41 (1996).
  9. ^ Ronald Benton Brown, Whatever Happened to the Uniform Land Transactions Act? 20 Nova L. Rev. 1017 (1996);
  10. ^ Peter B. Maggs, The Uniform Simplification of Land Transfers Act and the Politics and Economics of Law Reform, 20 Nova L. Rev. 1091, 1091–92 (1996).
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