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If you need a personal loan but are having trouble finding a low rate or getting qualified, you may need to turn to secured loans. One option is to use your car as collateral. Auto equity loans and car title loans both allow you to borrow money against the value of your car.
While having a secured loan can mean a lower interest rate, consider the potential consequences before signing off on this type of financing.
Getting an auto equity loan with your car as collateral
You can use your car as collateral for a loan. Secured loans require an asset the lender can repossess should you fail to repay the loan. Collateral may help you qualify for a loan, particularly if you have bad credit. Because borrowers assume more risk with a secured loan, lenders may offer lower rates in exchange.
You must have equity in a possession to use it as collateral on a secured loan. Equity is the difference between the value of the collateral and what you still owe on it.
For example, if your car’s resale value is $6,000 and you still owe $2,500 on your car loan, you have $3,500 of equity in your vehicle. In this situation, you’d have positive equity because your car is worth more than you owe. The more equity you have in the loan, the lower your interest rate is likely to be.
The biggest risk of using your car as collateral for an auto equity loan is that if you default on the loan, your bank or lender can take possession of your vehicle to help repay your debt. Fees might also apply.
If you’re curious about this type of secured loan, check your lender’s terms to learn whether it allows this type of collateral and, if so, how much equity you’ll need.
Benefits of using a car as collateral
There are two main advantages to securing a loan with your vehicle.
- Easier to qualify for a loan. Due to the added security lenders gain from collateral, secured loans are typically much easier to qualify for than traditional personal loans.
- Lower rates. Secured loans typically have lower interest rates available.
Drawbacks of using a car as collateral
Although using your car as collateral can be an appealing option, there are risks associated with this type of financing.
- More likely to become upside down. There is an added likelihood that you could become upside down — or have negative equity — because you are adding more to the amount you already owe.
- Potential for repossession. This is a big risk that comes along with using your vehicle as collateral. If you default on your loan, the lender can repossess your car. Along with this, your credit score will be negatively impacted.
Using your car as collateral for a car title loan
A car title loan, also known as a “pink-slip loan” or “title pawn,” uses your car as the primary collateral for a loan.
Car title loans allow for borrowing anywhere from 25 percent to 50 percent of the value of your vehicle in exchange for turning the title to your vehicle over to the lender as collateral.
Car title loans are high-stakes because the loan term is typically very short — usually 15 to 30 days — and the interest rates are extremely high, sometimes as much as a 300 percent annual percentage rate (APR).
These types of loans differ from auto equity loans in a few ways.
- A car title loan is a short-term loan compared to an auto equity loan, which usually comes with longer repayment terms.
- Car title loans are often much more expensive than auto equity loans.
- They typically allow people to borrow smaller amounts than auto equity loans.
- You typically cannot take out a car title loan if you owe money on your vehicle.
Due to the costly fees and interest rates, car title loans can go downhill very quickly if you cannot repay the debt in a short time frame.
What other collateral can you use for loans?
Your car is not the only type of collateral you can use for loans. Other types of collateral include:
- Your home. Home equity loans and home equity lines of credit (HELOC) use a percentage of the equity you’ve accumulated in your property as a loan amount or line of credit. Typically, banks let qualified borrowers tap up to 85 percent of their home equity.
- Your savings account. Share-secured loans or passbook loans are personal loans that use your savings account as collateral. Banks and credit unions most often offer these.
The bottom line
Double-check your other options before applying for a loan using your car as collateral. Do you have a trusted friend or relative willing and able to offer a short-term loan? Do you have enough time to save up for the expense or find supplemental income to cover it?
If a loan with your car as collateral is your best option, shop with a handful of lenders. Compare interest rates, repayment terms and associated fees to find the loan that’s the best fit.
FAQs
Using your car as collateral for a loan can be a double-edged sword, offering both benefits and drawbacks. While it can provide quick access to cash, especially for those with bad credit, it also carries risks, including high-interest rates and the potential loss of your vehicle if you can't repay the loan.
Can I take a loan out against my car? ›
A car title loan, also known as a “pink-slip loan” or “title pawn,” uses your car as the primary collateral for a loan. Car title loans allow for borrowing anywhere from 25 percent to 50 percent of the value of your vehicle in exchange for turning the title to your vehicle over to the lender as collateral.
What kind of car can you use for collateral for loan? ›
Most passenger car makes and models can be used as collateral for a personal loan. To qualify, your car must be: Less than 20 years old.
What is considered collateral for a loan? ›
Collateral guarantees a loan, so it needs to be an item of value. For example, it can be a piece of property, such as a car or a home, or even cash that the lender can seize if the borrower does not pay.
What happens when you use a vehicle as collateral? ›
It is possible to use your car as collateral on a loan. This means you offer up the car as security so if you default on the loan, the lender can take the car to help compensate for its financial loss. To use your car as collateral, you must have equity in the vehicle.
Can I sell my car if I used it as collateral? ›
Remember: You can't sell the assets you pledged as collateral without your lender making adjustments to your loan agreement. Think about car loans as an example. You wouldn't be able to sell the car you're financing without notifying the lender for your auto loan.
How much equity do I have in my car? ›
The equity in your vehicle is the value of your car after you subtract anything that you owe on it. If you own your car outright, with no loans or liens, your equity — expressed as a percentage — is 100%. If you have a loan balance, you subtract it from the car's current value to find your equity as a dollar amount.
Does taking out a car loan affect your credit score? ›
When you use an auto loan to buy a car, your credit score will likely take a slight hit due to the increase in your debt load and the hard inquiry that results when the lender checks your credit. Thankfully, the credit score should only dip a few points temporarily.
Do banks do secured loans? ›
Banks: Secured loans from banks are usually backed by a savings or CD account you already have with the bank. You can't access that money until the loan is repaid. Credit unions: Some credit unions offer share-secured loans, which is another term for savings-secured loans.
What Cannot be used as collateral for a loan? ›
Typically, funds in a retirement account like a 401(k) or IRA don't qualify as collateral. In addition, some lenders may not accept a car over five to seven years old as collateral.
For example, if you take out a car loan, your new car becomes collateral and secures the loan. If you stop making payments on your loan, the lender can repossess the car. Generally, the value of the collateral is sufficient to cover the lender's loss in case of loan default.
Why are car loans always secured with collateral? ›
A car is an expensive purchase. But, since public transportation is only widespread in large cities, it's a purchase most adults may need to make. In order to make auto loans less risky for the lender, the would-be borrower in many cases would be required to secure the loan with collateral.
How much can I borrow with collateral? ›
You may be able to borrow more with a secured loan. With a secured loan, you'll put up something valuable as collateral. The bank can take possession of this collateral and sell if you fail to pay back loan funds as agreed. You can usually borrow up to half of the value of the collateral.
How much collateral is needed for a personal loan? ›
Most personal loans are unsecured loans, meaning the lender does not require collateral. However, if you have limited credit or low income, you may not qualify for an unsecured personal loan.
Is it easier to get a loan with collateral? ›
Sometimes, it can be easier to get a loan if you're willing to put up some kind of collateral, like your vehicle, home or other valuables you own. Collateral loans use valuable property to secure the money you're borrowing, and generally provide lower interest rates.
Do you need collateral to buy a car? ›
Unlike unsecured personal loans, car loans are always secured. The car you buy is the collateral. This is one reason that auto loans usually come with lower interest rates than personal loans. The downside is that if you default on the loan the auto lender will repossess your car.
What happens if you sell collateral? ›
You can't sell an asset pledged as collateral on a small business loan unless you have the lender's consent and you've paid the appropriate price for the release. If you've sold the collateral without the lender's consent, the lender has legal recourse against you and the buyer.
