Secured vs unsecured personal loans and lines of credit in Canada

An unsecured personal loan is backed only by your promise to pay, so the lender prices in more risk. A secured loan is backed by an asset such as a vehicle, a savings deposit or your home, which usually lowers the rate and can make approval easier, but the lender can take the asset if you default. A line of credit, secured or not, is revolving: you borrow and repay as you like up to a limit and pay interest only on what you use. Which is cheapest depends less on the label than on the APR, the term and how disciplined the repayment is.

Part of the personal loan requirements and APR overview. Rates below are illustrative.

The four main structures

What security changes

Rate. With collateral, the lender's expected loss falls, so the rate usually does too. Illustrative comparison for $20,000 over 5 years:

Approval. As explained in how lenders assess applications, a borrower with a short or damaged credit history may be approved for a secured loan and declined for an unsecured one.

Risk. If you default, the lender can enforce its security under provincial law. For personal property such as a vehicle, security is registered in the provincial personal property security registry (PPSA registry), or in Quebec in the Register of Personal and Movable Real Rights (RDPRM). Some provinces limit what a lender can do once you have paid a large share of the debt, or make it choose between seizing the asset and suing for the balance; the rules differ, so ask a legal clinic or lawyer if repossession is threatened.

Costs. Registering security can involve small official fees; those are excluded from the criminal-rate calculation and often from the APR, but they are still money you pay.

Lines of credit: flexibility with a catch

A personal line of credit lets you draw what you need when you need it, and you pay interest only on the balance. The catch is the minimum payment. If the minimum is interest-only, a balance can sit untouched for years.

Illustrative example. You draw $10,000 at 9%.

• Interest-only minimum: about $75 a month. After 3 years you have paid about $2,700 in interest and still owe $10,000.
• Paying $200 a month: cleared in about 63 months with about $2,580 in interest.
• A 3-year instalment loan at the same 9%: about $318 a month, about $1,448 in interest, done in 36 months.

The line of credit vs instalment loan example explores this further.

Because most lines of credit float with the lender's prime rate, which moves with the Bank of Canada's policy rate, your cost can rise after you borrow. Your disclosure statement must explain how the rate is set.

HELOCs: cheapest rate, biggest stake

A HELOC is usually the lowest-rate way to borrow outside a mortgage, because your home is the security. For federally regulated lenders, OSFI's Guideline B-20 limits the revolving (non-amortizing) HELOC portion to 65% of the home's value; credit above 65% should be amortized. The total of mortgage and HELOC is generally capped at 80%, because a federally regulated lender needs mortgage insurance for anything above 80% (Bank Act s. 418) and HELOCs are not insured. Points to weigh:

• Setting one up may involve appraisal, legal and registration costs, and possibly a discharge fee later.
• An interest-only minimum makes it easy to carry debt for a very long time.
• Rolling unsecured debt into a HELOC converts it into debt secured on your home.
• In a falling housing market the lender can reduce the limit.

Choosing: a short decision guide

1. Do you know the exact amount and want a payoff date? Instalment loan.
2. Are the costs irregular or uncertain? Line of credit, with your own fixed repayment plan.
3. Would security save you a lot, and can you afford to lose the asset? Secured loan.
4. Are you a homeowner borrowing a large sum for a lasting purpose? Consider a HELOC, but treat it like a loan with a schedule.
5. Is your credit poor? Compare a secured loan or credit union loan with any high-cost lender offer, and read high-cost instalment lenders first.

Run the numbers in the personal loan calculator and see what sets your rate.

Frequently asked questions

Can I prepay a secured loan without penalty?

For a bank loan of a fixed amount that is not secured by a mortgage on real property, the Bank Act lets individuals prepay without a prepayment charge. Provincial laws give similar rights for many other lenders. Mortgages and HELOC term portions follow different rules.

Is a car title loan a secured loan?

Yes: the vehicle is the security. These loans are often marketed to people with poor credit and can be priced near the 35% APR limit. Read the default and repossession terms carefully.

Does a line of credit hurt my credit score more than a loan?

Lines of credit are revolving credit, so a high balance relative to the limit raises your utilization, which can weigh on your score. A paid-down instalment loan does not count toward utilization in the same way.

What happens to a co-signed line of credit if I stop paying?

The co-signer is liable for the full balance. The lender can pursue either of you.

Sources

• Office of the Superintendent of Financial Institutions — Guideline B-20 on residential mortgage and HELOC underwriting
• Financial Consumer Agency of Canada — lines of credit and HELOCs explained
• Bank of Canada — policy interest rate announcements that move prime
• Justice Laws Website — Bank Act prepayment rule (s. 627.28)