Can I use my car as collateral for a personal loan?

What is an auto equity loan?

When you need a loan but don’t have a good credit score, you have a few options. You could wait and improve your credit first, turn to bad-credit loans with sky-high interest rates or use the equity you have in one of your assets to prove to lenders you’re worth the risk.

Using your equity — how much ownership you have in something — can not only get you approved for a loan, but can also secure you better interest rates. When you put up your car as collateral, you’re assuming more risk than the lender, who can simply repossess your car and sell it to pay off your loan.

Auto equity loan example

Alice owns her car outright, and its current market value sits at $20,000. Alice’s credit only sits at 510, which isn’t high enough to qualify her for a personal loan she needs to replace her home’s roof.

Alice can use that $20,000 worth of equity to put up as collateral on a loan of the same amount (or higher depending on the lender). Since Alice is willing to take on the risk of covering the loan with her car should she stop making payments, lenders can forgive her lower credit score that indicates she’s a risky borrower.

» LEARN MORE: Personal loans vs. auto loans

Pros and cons of an auto equity loan

The fact that using collateral can better your chances of getting a loan doesn’t always mean this is the right call. If poor borrowing habits are what’s lowered your credit score, taking on a large loan may not be the right option for you.

“Overborrowing could lead to financial strain and potentially losing your car if you default on the loan,” said Sherman Standberry, a certified public accountant.

As with any financial decision, there are both pros and cons of using your car as collateral for a personal loan. When you’re willing to take on more risk, lenders can offer you better interest rates, and you also might qualify for higher loan amounts (if you have a lot of equity in your car) than you otherwise would based on your credit score alone. Also, collateral-backed loans tend to have quicker approval times since you’re reducing the lender's risk. This is particularly beneficial if you need funds for an emergency.

On the other hand, even when you put up collateral, lenders still check your credit score. Depending on how low it is, your rates will still be higher than for a borrower with excellent credit. And in the event that you fall behind on payments, your car could be repossessed and either sold or held until you can resolve those missed payments, which can be a huge inconvenience if you rely on your vehicle for work or family matters. There’s also a possibility that you could overborrow. “If the loan amount you need is more than the value of your car, you may need to find additional collateral or reconsider the loan amount,” explained Standberry.

A ConsumerAffairs reviewer, Tracy from Texas, said: “Although they did approve our title loan in our time of need, we definitely paid the price. The interest rate was outrageous. We put our Durango title as collateral on the loan. The payback was more than double our loan amount.”

» MORE: How to check your credit score

Where can I get an auto equity loan?

Auto equity loans are offered through a variety of lender types. Big banks offer these loans, as do some credit unions. Credit unions focus on community-based lending and are often more flexible, but larger banks often offer more options.

Additionally, there’s a growing number of online-only lenders offering personal loans secured by your car’s equity. Upgrade, for example, offers secured personal loans up to $50,000. Online lenders like Upgrade differ from more traditional options in their funding speed. Online lenders focus on next-day funding or funding you can get in just a few days.

To apply through any of these lenders, you need to have the right documentation, including:

• Your vehicle’s information, such as the vehicle identification number (VIN), title and registration
• Insurance documents that prove you have auto insurance
• Your driver’s license
• Proof of income in the form of pay stubs or bank statements
• Vehicle inspection records
• An appraisal verification that shows the current market value of your vehicle

» COMPARE: Best secured personal loans

Auto equity loan alternatives

Using your car as collateral for a loan can be risky — if you’re not careful, it can leave you without a car and loan payments you can’t make. There are alternatives that may suit you better and keep your car safe.

Traditional bank loans

Certain banks do accept low-credit borrowers. While you’ll likely need to settle for higher interest rates, you won’t need to put anything up as collateral to qualify.

Credit unions are more willing to work with low-credit borrowers, especially if you’ve been a customer for years. You’re working with employees who are members of your community and understand where you’re at.

Home equity loans

Rather than pulling equity from your car, home equity loans allow you to use the equity from your home to secure a loan.

Home equity loans are much larger loans than secured personal loans, but just like auto equity loans, if you miss payments, your lender could seize your home to pay off your debt.

Car title loans

A car title loan is similar to an auto equity loan in that your car is being used as collateral. However, with a car title loan, your car’s title gets transferred to the lender until you repay the loan.

These loans should be a last resort and are even illegal in some states. They don’t come with the best terms because they’re quick-turnaround loans that rely on your car’s title as collateral rather than your credit score.

» MORE: How to get a personal loan with bad credit

Bottom line

If you don’t want to rely just on your credit score to obtain a loan, using your car’s equity as collateral can secure you a decently high loan, assuming you can make the regular monthly payments.

However, using your car as collateral isn’t without its risks. If you can’t make the regular monthly payments, you lose your car and your credit score will take a big hit. Work with a lender — whether it’s a bank, credit union or online lender — that offers terms you can realistically meet.