What is Collateral?

Borrowing funds often requires the designation of collateral on the part of the recipient of the loan. Collateral is simply assets that have been pledged by the recipient as security on the value of the loan. In the event that circumstances make it impossible for the recipient to repay the loan, ownership of the collateral is transferred to the entity that issued the loan in order to settle the debt. Here is some information about the different types of assets that may be used as collateral in different situations. One of the most common examples of a collateral loan is with real estate purchases. In many cases, the property that is being purchased with the mortgage is held as collateral for the duration of the loan. Essentially, the financial institution that grants the loan retains interest in the property until the mortgage is paid in full by the homeowner. The mortgage holder must approve any changes in ownership of the property as long as there is an outstanding balance on the loan. Once the debt obligation is discharged, the mortgage holder considers the business arrangement to be concluded and releases all claims to the property. In like manner, many finance companies will use a newly purchased vehicle as the collateral on the loan used to purchase the car. This provides the finance company with the right to take possession of the vehicle if the owner defaults on the loan for any reason. Generally, companies that finance car loans will only finance what is understood to be the current market value of the vehicle. This helps to ensure that the collateral held on the property is sufficient to recoup any losses that result from the default. Other assets can also be used as collateral on cash loans. For example, jewelry and securities that have a certified value may be held as collateral until the loan is repaid. In some cases, rare antiques may be accepted as collateral. Depending on the circumstances, just about any asset that is clearly owned by an individual may be used as collateral, as long as the entity that makes the loan is willing to accept the asset as being sufficient to guarantee the loan amount. Providing collateral usually does not mean surrendering possession of the asset that is used as collateral. However, the borrower is covenanting to retain control of the asset for as long as it takes to repay the loan. This helps to provide the lender with a reasonable amount of confidence that the investment made in the borrower will be recouped, either through the systematic repayment of the loan, or by taking possession of the collateral.