Secured Debt: The Next Big Problem

Secured borrowing has usurped credit cards as the big problem debt area. Read about one Fool's concerns for borrowers.

TV adverts may be annoying, but, in finance, they are a very useful sign of products to be wary about.

When you see a product being advertised aggressively (i.e. frequently and everywhere), it means that it has a large marketing budget. If it has a large marketing budget it's because it makes them a big fat profit. Even bigger than most of their other products, I mean.

If a product makes them their biggest, fattest profits then it is probably not a good product for you -- it is over-priced.

There are exceptions, such as advertising 'loss leaders', which are especially cheap products that rope you in to buying more expensive ones. But financial companies tend not to advertise in this way; they usually just make their expensive products sound fantastic. So being wary of any products you see advertised a lot is my rule of thumb.

Secured loans are a good example.

Recently, the Consumer Credit Counselling Service said that the biggest problem for borrowers today is no longer credit cards but secured borrowing and the rising cost of mortgage debt. And it would know, as it speaks to thousands of debtors each month.

Credit cards are always a problem, with their very high interest rates and ridiculously low minimum payments, which encourage greater volumes of debt.

And many mortgage borrowers have been hit by rising interest rates which may have been a surprise for some.

But, more and more, secured loans (I'm not talking mortgages at present) are being aggressively and irresponsibly marketed for all sorts of uses. The worst combination is a secured loan that's been used to consolidate credit-card debts. The Fool has found in the past that five out of six borrowers who do this go on to rack up further debts with their now 'empty' credit cards!

In my view, secured loans are rarely the cheapest or best way to fund your debt.

What's more, secured loans are often taken out over a long period which increases the total cost. An unsecured loan at 10% interest (you can get them for 6-7%) for £10,000 over five years costs about £2,500 in interest. Yet a secured loan of 10% over 25 years roughly costs an enormous £12,500 in interest, or more than double what you borrowed.

Keith Tondeur, national director of the money education charity Credit Action, said that for the people who contact them with serious debt problems, secured loans are suitable only 3% of the time.

Really, secured loans are most likely to be suitable for wealthier people with large disposable incomes who want finance for big improvements to their homes, or something similar.

However, every single time I've studied cases to see whether a person's finances would best be optimised with a secured loan, I've always found a cheaper and better alternative. I'm sure that secured loans have a place, but I believe they're not for the majority of borrowers. If you look hard enough, most of you will find much better ways. Things to look for are:

Fixed interest. Most secured loans have variable interest, but most unsecured loans have fixed rates of interest, which makes it easier to budget.

Shorter loans. If you have a longer loan, you'll pay a lot more interest. It's much better to try to pay off your debts sooner. On a related note, adding debts to your mortgage may seem cheaper because of the low interest rate, but over the length of your mortgage you'll end up paying lots more, so be careful there too.

Make overpayments. If you're lucky (or if you use our personal loans search tool) you should be able to find unsecured loans that allow you to overpay when you can. This cuts the length of the loan and can massively reduce the interest you pay.

We have a lot of great guidance on debt. Read How To Get Out Of Debt for a start. Furthermore, I continue to find that the best resource for debt on the whole Internet by miles is The Motley Fool's own Dealing with Debt discussion board. Read why it's so amazing in my review: 1,000,001 Tips To Reduce Your Debts!

> Compare unsecured personal loans through The Fool.
> The Loan Arranger Rides Again!