Collateral

Definition

Collateral refers to property or assets that a borrower offers to a lender as security for a loan, which can be seized if the borrower defaults on the loan.

Purpose

The purpose of collateral is to provide assurance to the lender that the loan will be repaid. If the borrower fails to meet the repayment terms, the lender can take possession of the collateral to recover the loan amount.

Examples of Use

• A house is often used as collateral for a mortgage loan.
• Vehicles can be used as collateral for auto loans.
• Inventory or accounts receivable may be used as collateral in business loans.

Related Terms

• Secured Loan: A loan that is backed by collateral.
• Unsecured Loan: A loan that is not backed by collateral, typically with higher interest rates due to increased risk.
• Lien: A legal right or interest that a lender has in the borrower's property until the debt is paid.

Notes

Using collateral can help borrowers secure lower interest rates and better loan terms, but it also involves the risk of losing the collateral if the loan is not repaid.