Collateral is a form of security that the borrower may offer the lender to guarantee a loan or other credit. Collateral can be resources, belongings, or something of wealth and value to the borrower. If the borrower fails to pay back the credit, the asset acting as collateral may become subject to seizure. The lender can then sell this to comply with the original contract. This ensures payment or performance of the obligations stated in the lending agreement.
Many borrowers take out a loan of the same value as the asset being purchased. This option is generally used when purchasing equipment. When taking out a mortgage, the borrower can offer the house as collateral. Borrowers who offer a personal residence or real estate as collateral are usually requesting a long-term loan of significant size.
A business may use its inventory as security, including all the assets that could be liquidated to repay the loan, such as merchandise, equipment, stocks and bonds owned by the borrowing business.
A borrower can also secure a loan by using another person as an endorser of the contract. This person signs a note promising to back up the obligations of the borrower. If the borrower defaults, the endorser is liable for the contract, and must pay the funds to the bank.