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When a consumer takes out a loan, the lender will often base it upon the borrower's credit, income and employment. This is considered an unsecured loan if there isn't an asset attached to it. There are other ways to obtain a loan, however. If you own a certificate of deposit, or CD, you may be able to borrow against that investment instead.
Certificates of Deposit
You can open a certificate of deposit with a bank for varying terms. CD lengths range from as short as three months up to several years. The money earns interest during this period. Generally, the longer you own the CD, the higher the interest rate you'll receive and the more you will earn in interest. Often, you cannot withdraw the money from a CD without paying a penalty for doing so. However some banks, such as Ally, offer a penalty-free CD that permits you to withdraw money from the CD at some point without incurring a penalty.
A CD is an asset, and borrowing against an asset is one way to get a loan. This type of loan, called a secured loan, uses the asset as collateral. Borrowing guidelines vary from bank to bank, but generally the amount of the loan cannot exceed the amount of the secured asset. This is a less-risky loan for the bank than an unsecured loan, because it's based upon pledged collateral, which the bank can seize if you don't fulfill the repayment terms. If you use a CD as collateral, you won't be allowed to withdraw the funds from the CD during the loan term.
Another way to borrow against a CD comes in the form of a secured credit card. A secured credit card uses the CD as collateral. The credit limit for a secured loan is often equal to the amount of the CD on deposit with the bank, although different banks may have a limit on how high the credit limit can be. For example, Bank of America offers a secured credit card as of publication with a maximum credit limit of $4,900. As with a loan, you cannot withdraw the funds from the CD while using it to collateralize the credit card. However, depending upon how well you handle the account, some banks may convert the secured credit card to an unsecured card. In this case, the CD is no longer used as security.
When you take out a secured loan product, you give the bank a security interest in that asset. If you default on a loan or credit card that uses the CD as collateral, the terms and conditions of your loan agreement generally give the bank the right to liquidate the CD to cover the defaulted balance. This usually includes the forfeiture of any interest accrued on the CD. If the amount you owe on the loan exceeds the value of the CD, then you will owe that difference to the bank. The bank may pursue collection efforts against you to recover that amount.