There is an aspect of collateral associated with all loans advanced from formal lenders like banks and micro finance institutions. Just like there are different requirements from various lenders, there are also different loan types that can be secured differently. The most popular loans in the Kenyan market are check off loans. Here, the key aspect of security is an agreement between the bank and the employer to deduct at source and remit to the lender on behalf of the employee. This is done until the loan is fully repaid.
What happens when you are in self employment?
Self employed people will always have to offer tangible collateral when borrowing. This collateral acts as the fall back position should you default. You will also be expected to have a guarantor who is credible and able to pay should you not pay as agreed.
In terms of priority, the lender will follow up your guarantor and recover the loan from them. In case it is not fully repaid, the collateral is then called up to clear any outstanding amounts.
Why is the guarantor followed up first?
Though no banker will ever admit this, the motive at the back of the mind is to embarrass you into paying. It is assumed that you value your personal relationship with the guarantor and if able, you will pay up to avoid putting them under distress. If you are totally unable, the guarantor may know and advise the bank accordingly.
Having said that, lenders accept collateral that is adequate for the loan advanced and easily sellable should it come to that. Examples include the following;
Cash. I have personally never understood why someone would put money into a fixed deposit account then proceed to borrow an equivalent amount or less. For some reason, many people do that. This is the easiest loan to give as the risk to the bank is almost zero.
Moveable goods. These include household items like electronics and furniture. Business equipment like machines, vehicles etc are also acceptable. Usually, such items can only secure short term advances up to 2 years repayment period. Lenders impose a very conservative valuation model for such items and lend even less to mitigate their risk.
Stocks, shares, Bonds and government paper. Only stocks, shares and bonds from listed companies are accepted as collateral. The value assigned is as per the latest trading day. You can only borrow up to about 50% of the value. This type of lending is very volatile and if share prices drop significantly, the lender will follow you up to provide additional collateral. Government paper is a more stable security. Before releasing money, the lender registers a lien over the securities meaning they cannot be traded without their permission or until the loan is fully repaid.
Insurance cover. Only policies that have a surrender value are accepted. Again, the insurer is notified that the policy is securing a loan and the beneficiary can only be paid through the lending bank.
Title deeds. This is the most stable form of security for medium to long term loans. The process of using this is however long and costly hence only makes sense when applying for a big loan. It involves valuing the land and registering the lender’s interest with the ministry of lands. On average, it takes 1 to 2 months to get the money from application date.
It therefore calls for assessment of all terms of lending before choosing which loan to apply for and what collateral to use.