Discover how auto equity loans function, their pros and cons, and alternative borrowing options. Read this guide to learn more about auto equity loans and make informed borrowing decisions.
Q&As
What is an auto equity loan? An auto equity loan is a type of personal loan that uses the equity in your car as collateral. The equity is determined by subtracting any outstanding loan balance from the vehicle’s market value.
How can you get an auto equity loan? To get an auto equity loan, you can follow these steps: review your credit, explore different lenders, assess the car’s value, apply for an auto equity loan, and repay the loan according to the loan agreement’s terms.
What are the advantages and disadvantages of auto equity loans? The benefits of auto equity loans include lower interest rates, higher loan amounts, and more flexible approval criteria. In contrast, the disadvantages include the risk of repossession, limited availability, and the requirement to carry full coverage auto insurance.
What are three alternatives to auto equity loans? Three options for auto equity loans include home equity loans, cash-out auto loan refinances, and personal loans.
How do auto equity loans differ from car title loans? Auto equity loans use the equity in your car as collateral, while car title loans involve borrowing money using your vehicle title as collateral. Auto equity loans usually have lower interest rates and more flexible terms than car title loans, allowing you to keep your car while repaying the loan.
A Comprehensive Guide to Auto Equity Loans
Auto equity loans, though not as widely used, function similarly to home equity loans, allowing borrowers to use the equity they have accumulated in their vehicle to secure financing. This type of loan involves using your vehicle as collateral to obtain funds. In this article, you will discover how auto equity loans operate, their advantages and disadvantages, how to acquire them if interested, and some alternative borrowing options.
What Is an Auto Equity Loan?
An auto equity loan is a type of personal loan that uses the equity in your car as collateral. The equity is determined by subtracting any outstanding loan balance from the vehicle’s market value. Depending on your creditworthiness and other factors, some lenders may allow you to borrow up to the total amount of your vehicle’s equity. In contrast, others may offer loans for more than the equity amount, up to 125% in some cases.
How to Get an Auto Equity Loan
1. Review Your Credit
Before submitting a loan application, it is recommended that you review your credit reports from the three major credit bureaus, including Equifax, TransUnion, and Experian. Lenders usually scrutinize your credit reports during the application process, making it crucial to know your creditworthiness before applying. If any discrepancies arise on your credit reports, you may dispute them with the appropriate credit reporting agency under the Fair Credit Reporting Act (FCRA).
2. Explore Different Lenders
Evaluating loan offers from various lenders when seeking financing, such as auto equity loans, is advisable. By comparing financing options, you may uncover the most favorable deals for your specific circumstances, such as reduced interest rates and fees that can result in significant savings.
3. Assess the Value of the Car
The following step is to determine the value of your vehicle to gain insight into your borrowing capacity. Online resources like Edmunds or Kelley Blue Book can assist you with this task. If your car is still under an auto loan, subtract the outstanding loan balance from the vehicle’s value to determine your available equity.
4. Apply for an Auto Equity Loan
Once you have identified your preferred auto equity loan option, you can proceed with the application process. Submitting multiple pre-approval requests to lenders who provide this service is acceptable. Typically, these applications entail soft credit inquiries that will not negatively impact your credit score. However, limiting the number of complete loan applications is crucial since they typically involve hard credit inquiries that can damage your credit score.
FICO scores have specific provisions for particular credit inquiries when made within a 14-day window (45 days with newer FICO scores) for rate shopping purposes. However, this particular provision applies to mortgage applications, auto loans, and student loans, but not necessarily auto equity loans, which may be classified as personal loans. Therefore, using several auto equity loans for a short duration might harm your credit score. Choosing your preferred lender and verifying if you meet the lender’s approval criteria is advisable.
5. Repay the Loan
Once you have secured an auto equity loan, you must repay the debt by the loan agreement’s terms. Failure to comply with the payment terms can jeopardize your credit history and score, and you may lose your vehicle as it serves as collateral for the loan.
Advantages and Disadvantages
Advantages
- Lower interest rates: Auto equity loans are secured loans, meaning the lender can seize the asset (your vehicle) if you default on your loan payments. Due to the reduced risk for the lender, the interest rates for secured loans (including auto equity loans) are often lower than for unsecured financing alternatives.
- Higher loan amounts: If your vehicle has substantial equity, you may qualify for a more significant loan than an unsecured loan.
- More flexible approval criteria: Auto equity loans frequently have more lenient approval criteria since the lender can minimize its risk with the asset you use (i.e., your vehicle’s equity) to secure the loan.
Disadvantages
- Risk of repossession: Your vehicle serves as collateral for the loan, which means the lender can repossess your car if you fail to make payments as agreed.
- Limited availability: Auto equity loans may not be available from all lenders, and it’s essential to be aware of predatory car title loans that are sometimes confused with auto equity loans. Credit unions are more likely to offer auto equity loans than financial institutions.
- Full coverage auto insurance: As collateral for the loan, the lender may require you to carry full coverage auto insurance, which can increase your monthly expenses.
Alternatives to Auto Equity Loans
Here are three alternatives to auto equity loans that may be more suitable for your borrowing needs:
- Home equity loans: This type of loan allows you to use the equity you have built up in your home as collateral to secure financing instead of your vehicle. Depending on your credit score, the amount of equity you have available, and other factors, you may be able to qualify for a better interest rate and a more significant loan amount. However, remember that you risk losing your home to foreclosure if you cannot repay the loan.
- Cash-out auto loan refinances: This option involves taking out a new loan to pay off your original car loan. If you qualify, the lender may loan you more than the payoff amount on your original loan and give you the difference in the form of a check or bank deposit.
- Personal loans: These loans can provide another flexible borrowing option instead of an auto-equity loan. If you have good or excellent credit, you may be able to secure a competitive interest rate without providing collateral. However, if you have bad credit, you should expect to receive higher interest rates and less favorable borrowing terms.
Auto Equity Loans vs. Car Title Loans
While auto equity loans and car title loans may appear similar at first glance, it’s crucial to recognize the significant distinctions between these two types of financing.
Auto equity loans, as explained previously, are a form of personal loan that employs the equity in your car as security. In contrast, a car title loan is an expensive installment loan that shares similarities with payday and pawnshop loans. Despite providing fast cash with minimal or no credit checks, the interest rates on these loans can reach up to 300% APR.
What Are the Interest Rates on Auto Equity Loans?
Auto equity loan interest rates vary among lenders and are influenced by factors such as your credit score and history. To get the best deal, comparing rates from multiple lenders is essential, considering other loan options like home equity loans, HELOCs, cash-out auto refinance loans, and personal loans.
KEY TAKEAWAYS
- Auto equity loans are personal loans that allow borrowers to use the equity they have accumulated in their vehicle to secure financing.
- To acquire an auto equity loan, borrowers must review their credit, explore different lenders, assess the car’s value, apply for the loan, and repay the debt by the loan agreement’s terms.
- Auto equity loans have advantages and disadvantages, such as lower interest rates, higher loan amounts, and more flexible approval criteria, but also the risk of repossession, limited availability, and the need for full coverage auto insurance.
- Three alternatives to auto equity loans are home equity loans, cash-out auto loan refinances, and personal loans.
- Auto equity loans differ from car title loans, and borrowers should know the differences to avoid falling into a predatory lending trap.
