Differences Between Collateral & a Guaranteed Loan?

When you apply for a loan, the lender typically requests information about your income and credit history to ensure that you have the ability to repay the loan. If the loan is large or the lender isn't confident that you will be able to make the payments, he may request collateral or a guarantee.

When you use collateral to obtain a loan, you must pledge one or more of your assets as security for the loan. If you fail to make your payments, the lender can foreclose on the collateral you pledged and sell it to recover the debt. For example, to secure a home loan, you typically pledge the home as collateral. If you fall behind in your mortgage payments, the bank may sell your home.

A guaranteed loan is a loan in which an individual or entity has agreed to be personally responsible for the debt in the event of default. Lenders will grant a guaranteed loan if you agree to be personally responsible, if another individual agrees to act as guarantor or if another entity, such as the Veteran's Administration, guarantees the loan. If you default on the loan, the lender can file a lawsuit against the guarantor for the debt.

Many larger loans, such as mortgages, are secured with both collateral and a personal guarantee. If you secure a loan on your own using collateral and you default on it, the lender typically forecloses on the collateral and attempts to collect the remainder from you personally. However, if another individual or entity guarantees your loan, the other guarantor is also personally liable for the amount of debt he guaranteed. If collateral is involved, the lender typically forecloses on the collateral first and then attempts to collect from you and the other guarantor.

Many lenders of business lenders request personal guarantees as well as collateral. If your business secures a loan and you sign a personal guarantee, you are agreeing to repay the loan using your own assets if the business fails to pay. However, if you use collateral and don't sign a personal guarantee, the lender may take your collateral and sue the business for the remainder, but he can't take any of your personal property.