What is collateral in financial terms?

Collateral in financial terms refers to an asset that a borrower offers to a lender to secure a loan. This asset acts as a form of protection for the lender; if the borrower fails to repay the loan, the lender has the right to take possession of the collateral to recover the outstanding debt. Common examples of collateral include real estate, vehicles, or other valuable assets. By having collateral, lenders are often willing to offer loans at more favorable terms because the risk of loss is reduced.

The other options do not accurately define collateral. Insurance is a financial product to protect against risk, an interest rate is a cost associated with borrowing, and a government grant is a form of financial aid that does not need to be repaid. Understanding collateral is vital in personal finance as it plays a crucial role in securing loans and can impact loan approval and interest rates.