Lenders may demand collateral or an asset that the borrower owns to use it as a guarantee until he repays the loan. It may be sold if the borrower is not able repaid. (3-5 marks) long answer.
Answers
Explanation:
The term collateral refers to an asset that a lender accepts as security for a loan. Collateral may take the form of real estate or other kinds of assets, depending on the purpose of the loan. The collateral acts as a form of protection for the lender. That is, if the borrower defaults on their loan payments, the lender can seize the collateral and sell it to recoup some or all of its losses.
KEY TAKEAWAYS
Collateral is an item of value used to secure a loan.
Collateral minimizes the risk for lenders.
If a borrower defaults on the loan, the lender can seize the collateral and sell it to recoup its losses.
Mortgages and car loans are two types of collateralized loans.
Other personal assets, such as a savings or investment account, can be used to secure a collateralized personal loan.
How Collateral Works
Before a lender issues you a loan, it wants to know that you have the ability to repay it. That's why many of them require some form of security. This security is called collateral which minimizes the risk for lenders. It helps to ensure that the borrower keeps up with their financial obligation. In the event that the borrower does default, the lender can seize the collateral and sell it, applying the money it gets to the unpaid portion of the loan. The lender can choose to pursue legal action against the borrower to recoup any balance remaining.