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What is a car equity loan and who are they good for?

What is a car equity loan and who are they good for?

With a personal loan you can borrow money without any security, but with a car loan you can borrow money against the value of your car. And while having a secured loan can mean a lower interest rate, consider the benefits and risks associated with a car loan before taking out one.

What is a car loan?

A car loan is a variant of a personal loan. You can use the money for any purpose, provided there is equity in your vehicle.

With car loans you can borrow money against the value of your car. If your car is worth $25,000 and you have a $10,000 loan balance, you have $15,000 in equity that you may be able to borrow against. With a car loan, you can borrow up to 100 percent of the equity in your car, up to a certain limit.

Since the loan is backed by your vehicle, you can probably get a lower rate than a normal personal loan. However, because your car is used as collateral, it is at risk of foreclosure if you don’t make your payments on time.

If you are looking for a car loan, check with your bank or credit union first. They may offer the service, or they may have a partner that they can connect you with.

Benefits of a car loan

A car loan can bring a number of advantages.

  • Faster approvals. For people with bad credit, a car loan can mean quick approval. Because you can use the equity in your car as collateral, the bank can ensure that it gets its money back.
  • Larger loans. As with any equity loan, the amount you can borrow is determined in part by how much equity you have in your car. For example, someone with a $10,000 car and $5,000 in equity may get a $5,000 loan, while someone with a less valuable car may not be able to get a loan at all.
  • Low interest rates. The interest rate you receive on a car loan is directly linked to your credit score and the value of your car. That means if your car is worth a lot, you may be able to get a good price even with less than perfect credit.

Disadvantages of an auto equity loan

There are also some drawbacks to taking out a car loan.

  • Vehicle is collateral. A car equity loan uses your car as collateral. This means that if you stop paying, the lender can take your vehicle back to recoup its losses.
  • Hard to find. Auto equity loans are not common. If you are looking for a car loan, check with your bank or credit union first. They may offer the service, or they may have a partner that they can connect you with.

Who is a car loan best for?

Those most likely to benefit from a car loan meet a number of criteria.

  • Have equity in your car. The most important part of being a good car loan candidate is having enough equity to take out a loan.
  • Being able to make payments. Since your car will be on the line, it’s important to know that you can make payments every month. If you do not do this, your vehicle can be taken back.
  • The interest is lower for you. If the interest rates on a car loan are lower than traditional personal loans and other credit options, it may make sense to opt for this unusual type of loan over something more readily available.

Alternatives to a car loan

If you can’t get a car loan or if the application process isn’t as smooth as you’d like, you may want to consider loan options that don’t require your car.

Equity

Like a car loan, a home equity loan relies on having equity in your home. You can usually borrow up to a percentage of equity or a predetermined maximum. If you own your own home, this can be a viable alternative.

Personal loan

Personal loans are a solid alternative choice to a car loan, but the rates will likely be slightly higher because they are not secured. The process of getting a personal loan is similar to getting a car loan and can be done in person or online with a number of lenders.

credit cards

Although they are an alternative, credit cards are usually much more expensive than a personal loan or secured loan. However, they are also easier to qualify and you can access the credit immediately after approval.

Next steps

A car loan can be a good idea if you are looking for a loan at a low rate. But it’s important to budget accordingly because your vehicle is at risk if you can’t afford it.

Learn more