First, let’s define what a secured line of credit is.
“Secured” means that collateral is needed to back up the loan. The Small Business Administration defines collateral as, “an additional form of security which can be used to assure a lender that you have a second source of loan repayment.”
At first glance, the downside of a secured loan seems simple. If you default on the loan, you lose the collateral. But let’s dig deeper into this to determine the consequences of putting up collateral to back up a lot of credit.
What collateral is needed for conventional loans?
Generally speaking, a house or a property is used as collateral. However, anything you have a title of ownership for can be used as well.
Other forms of collateral that can be considered are assets under the business. This can be inventory, equipment, accounts receivable, etc.
Last but not least, some banks require cash upfront to back up the loan. This can also be called an upfront fee that you retain after paying back the loan.
Why are secured lines of credit a bad idea?
Successful business owners follow the universal principle of; “I will succeed no matter what.” This is a great philosophy to do business by. We commend business owners for their perseverance.
But when it comes to protecting your personal assets, the roof over your family’s heads, and the assets that make your business value, it is important to understand facts. Proven time and time again over the last hundred years, our economy is not invincible.
The market goes up. The market goes down. Our economy is cyclical.
Today’s most successful companies in an upmarket can be the same companies in default next year in a down market. You, nor I, nor anybody else has control over the economy.
We must accept this lack of control. In doing so, we must understand that losing our collateral is certainly possible.
Why not risk the assets of my business?
The reason why you would not risk your house is fairly obvious. If the economy takes a downturn and your business suffers, the only thing worse than failing in business would be to have you move your family out of your current home.
But I always get the same question for this reason, why not risk the assets of my business because if I default on all my loans, I will have no business anyway.
This is a myth.
Unlike a secured line of credit, unsecured lines do not have a direct result on your business assets. Worst case scenario, if you default on an unsecured line of credit, you can still sell the assets of your business (equipment, inventory, etc.).
If the lines of credit are secured with your business assets, the bank owns all of your business assets once you default on the loan for a certain time period. Your business assets become the asset of the bank to sell to make a profit.
Even though we go into business to succeed, we must recognize the ups and downs of our economy. Do not get discouraged by the lack of control you have over our economy.
Instead, prepare yourself for the worst but expect the best. Preparing yourself for the worst simply means working with the right company that can help you attain unsecured lines of credit for your business.
This way, you do not have to deal with the stress of risking your personal assets, your business assets, and your livelihood.
Where can I get unsecured lines of credit?
The question you want to ask yourself is, are you ready to apply for unsecured lines of credit? Let us help you determine the answer to this question by doing a free analysis of your credit report. If your ultimate goal is to increase your credit scores, tradelines may be a better way to go.
Updated: July 28, 2021
2 thoughts on “The down sides of obtaining a secured line of credit:”
Should I add secured lines of credit or add seasoned tradelines?
Thank you for such a good question. Questions that start with the word “should” are problematic. They are problematic because the answer will always start with the words “it depends.”
For example, it depends on what you’re trying to accomplish. If you have nothing on your file and add season to trade lines, your credit score absolutely will increase and it will increase substantially. However, if you have no primary tradelines of your own, you’re missing a good chunk of the overall FICO algorithm. So, in that kind of situation, you would want to do both (seasoned and secured tradelines).
If you’re asking because you’re trying to determine which one has a larger credit impact, the answer is unequivocally seasoned tradelines. In fact, depending on the size of the secured credit lines, you could place yourself into a certain scorecard and actually hurt your credit. For example, if you got a $300.00 secure line, it places you in an adolescent scorecard, telling risk moders that you’re young and untested. This will decrease the impact of seasoned tradelines.
This is not a shameless ploy to get you to call us, but for an actual answer to your question we would have to review your credit report and determine what your credit goal is and – only then – would we be able to give you a legitimate answer.
Otherwise, I hope that was helpful.