Can You Use Your Car as Collateral for a Personal Loan?
Quick Answer
You can use your car as collateral for a personal loan to help improve your chances of qualifying or getting a lower rate. However, you risk losing your vehicle if you’re unable to keep up on payments.
Collateral-backed loans, also called secured loans, are typically easier to qualify for and cost less than unsecured loans because they present less financial risk to lenders. Using your car as collateral is one way to secure a personal loan, but doing so could mean losing your vehicle if you can't keep up on payments.
It's crucial to understand how an auto-secured loan works and what the risks and benefits are before putting your car on the line.
Can You Use Your Car as Collateral for a Personal Loan?
If you own your car outright or have enough equity (even if you're still paying off your auto loan), you may be able to use your car as collateral for a loan. Using your car as collateral reduces risk for the lender, often making it easier to qualify and potentially resulting in more favorable rates and terms.
But you have to be willing to accept the risk of having your vehicle repossessed. Because your car secures the loan, the lender typically has the right to seize your vehicle if you're unable to make your payments and sell it to recoup their losses.
Learn more: Secured vs. Unsecured Loans: What You Need to Know
Types of Personal Loans That Use Cars as Collateral
If you need extra cash and are considering using your car to secure a loan, several options are available.
Secured Personal Loans
While many personal loans are unsecured, some lenders offer secured personal loans that allow borrowers to use their car as collateral. Because secured loans are generally easier to qualify for due to the reduced risk for the lender, borrowers with less-than-stellar credit profiles may have a better chance of receiving a secured loan instead of an unsecured loan.
However, not all lenders offer loans that can be secured by a vehicle. Lenders that do offer secured loans typically require borrowers to own their vehicles outright, and the car generally needs to meet specific mileage, age, title and insurance requirements.
Auto Equity Loans
Auto equity loans work like home equity loans, but instead of using your house as collateral, they use your vehicle. Unlike secured personal loans, you may not need to own your vehicle outright—if you have enough equity. Here's how it works.
Example: Let's say your car is worth $30,000, and you owe $10,000. That leaves you with $20,000 of equity that you may be able to tap into. Lenders generally allow you to borrow 100% to 125% of your accumulated equity.
Car Title Loans
Car title loans are like payday loans that use your car as collateral. You can typically borrow 25% to 50% of your car's value, but these types of loans are risky and expensive, with APRs as high as 300% and short repayment timelines that are often no more than 30 days.
To get a car title loan, your vehicle usually must be paid off, and you need to hand over the title to the lender in exchange for the loan. When you repay what you borrowed plus interest and fees, you get the title back. However, because repayment timelines are so short, borrowers frequently struggle to repay what they owe.
Car title loans are easy to qualify for since the lender can take your vehicle if you're unable to pay, but they're illegal in many states because they're so risky.
Pros and Cons of Using Your Car as Collateral for a Personal Loan
Before agreeing to use your car as collateral for a loan, carefully weigh the benefits and drawbacks to determine whether doing so makes sense or if another option may be better.
Pros
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Lower interest rate: Because loans secured by a vehicle represent less risk to the lender, they typically have lower interest rates than unsecured loans.
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Increased approval odds: Lenders may be more willing to approve your application for a secured loan because they assume less risk.
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Funding timeline: You typically get loan funds quickly, often the same day you apply.
Cons
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Repossession risk: If you're unable to make your payments, the lender generally has the right to seize your vehicle and sell it to pay off your loan balance. Repossessions negatively affect your credit and may remain on your credit reports for up to seven years.
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Vehicle eligibility requirements: You can't secure a loan with just any vehicle. Your car typically has to meet lender requirements to be used as collateral.
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Potential for negative equity: You've probably seen the statistics about how quickly cars depreciate. The average vehicle loses about 20% of its value within the first year and 60% within the first five years, according to Kelley Blue Book. Borrowing against the equity in your car could leave you upside down on your loan.
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Loan amount: Loan amounts are generally limited to the equity you have in your vehicle, although some lenders may allow you to borrow more than that. If you need a larger sum of money, a secured loan may not be your best option.
Should You Use Your Car as Collateral for a Personal Loan?
In most cases, using your car as collateral shouldn't be your go-to option if you need extra cash. You should only secure a loan with your vehicle if you have a solid repayment plan in place. Otherwise, you risk losing your transportation, which could lead to a cascade of other financial issues.
While the lower interest rate of a secured loan may be tempting, unsecured loans are a safer bet if you can qualify for one. While your credit will take a hit if you're unable to make your payments, the lender won't be able to seize your vehicle.
Learn more: What Can Be Used as Collateral for a Personal Loan?
Other Types of Collateral-Backed Loans
Auto-secured loans aren't the only type of collateral-backed loans available. Depending on your personal situation, you may want to consider other options.
- HELOC: A HELOC is a revolving line of credit that uses your home as collateral. It allows you to repeatedly borrow against the credit line until the repayment period begins, giving you flexibility to access funds as needed. HELOCs typically have variable interest rates with monthly payments that fluctuate based on rates.
- Home equity loan: Like a HELOC, a home equity loan uses your house as collateral. Unlike a HELOC, it's an installment loan that allows you to borrow a lump sum and repay it with interest in equal monthly payments over the loan term. Home equity loans have fixed interest rates and predictable monthly payments.
- Cash-secured personal loan: Using your automobile as collateral isn't the only way to secure a personal loan. Some lenders allow borrowers to use cash to secure their loan. If you have money in a deposit account that you want to keep on hand, getting a cash-secured personal loan may be an option.
- Business loan: Lenders may require business owners to put up collateral to secure a business loan. The collateral typically has to be something the institution can easily sell if the borrower defaults on the loan, such as real estate, a company vehicle, equipment or inventory.
Tip: Avoid trading unsecured debt for secured debt if possible. If you default on a secured loan, your lender has the right to seize the asset securing it and sell it to pay off your loan balance.
The Bottom Line
Securing a loan with your vehicle is a risky move that could jeopardize your ability to get where you need to go. Before putting your car on the line, consider your loan options carefully; you may not need to risk your vehicle to get the cash you need.
Depending on your finances, credit history and the amount you want to borrow, alternatives to consider include using a credit card, asking a friend or family member for a loan, taking out an unsecured personal loan or getting a small-dollar payday alternative loan (PAL) from a credit union, if you're a member.
Before applying for any type of credit, it's a good idea to review your credit reports, which you can do for free at AnnualCreditReport.com, to ensure all the information is accurate, and check your credit score. You can check your FICO® Score☉ for free from Experian anytime.
No matter what type of credit you apply for, developing a solid repayment plan before borrowing is essential to minimize the risk of negatively affecting your credit and jeopardizing your financial health.
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About the author
Jennifer Brozic
Jennifer Brozic is a freelance content marketing writer specializing in personal finance topics, including building credit, personal loans, auto loans, credit cards, mortgages, budgeting, insurance, retirement planning and more.
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