Collateral

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When you borrow money, a bank will very likely ask you, “What collateral (security) can you give?”

What is collateral? That’s an asset pledged by a borrower to protect the lender’s interest. If the borrower defaults ie. do not pay back the loan, the lender can sell the asset to recover the money lent. Types of assets used as collateral include landed property, securities (shares), receivables, fixed deposits and plant, and machinery.

For an individual who is applying for a housing loan, the house to be financed will be the collateral for the mortgage. If the individual defaults, the bank will sell the house. If there is a shortfall between the sales proceed and the loan outstanding, the lender will claim the shortfall from the borrower. This happens when the house value is below the loan value. This is called negative equity, which hit many homeowners in the USA during the subprime crisis.