What is an auto equity loan?

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In a Nutshell

Auto equity loans might sound appealing if you're in a financial pinch and aren’t sure if you’ll qualify for other financing. Auto equity loans let you borrow against the value you have in your car, no matter whether you own it outright or not. But like with any secured loan, you risk losing your collateral if you don’t pay back the loan as promised.
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Auto equity loans are similar to home equity loans, except you’ll use the value of your vehicle as collateral for a short-term loan instead of your house. Then, you’ll pay back the loan with interest over time. 

Auto equity loans can be appealing if you need fast cash. That’s because it can be easier to qualify for an auto equity loan than a traditional loan since the car acts as collateral. Plus, some auto equity loans have longer terms and lower interest rates than other risky loans like title loans and payday loans.

On the downside, car equity loans can get expensive. And if you can’t pay back the loan according to its terms, your credit could take a hit — and you may lose your car. Here’s what you should know before you take out an auto equity loan.

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What is an auto equity loan?

An auto equity loan is a type of secured loan that allows you to borrow money against the value of your car, often whether you own it outright or have some equity in your car. Since you’re putting your car up as collateral, auto equity loans may have longer terms and lower interest rates. Loan amounts will depend on factors like how much equity you have in your car, its fair market value, your income and credit.

To apply, you’ll need to fill out an application and provide details about your car’s value and how much equity you have in it. If approved, the money might be deposited into your bank account as soon as the same day, depending on the lender.

You may sometimes see lenders use the term auto equity loan and car title loans interchangeably, but they are different — be sure to check with the lender if you’re unsure. To get a car title loan, you’ll often have to have a free and clear title — meaning there are no liens or other encumbrances on the title.

Pros and cons of auto equity loans

You should carefully compare the costs associated with an auto equity loan with any potential benefits for your situation.

Auto equity loans cons

Below are some of the downsides to an auto equity loan.

Auto equity loans can get expensive

Aside from interest costs, some auto equity loans come with DMV lien fees and documentary stamp tax fees. These may be included as part of the loan, meaning you’ll pay interest on them over time. Your annual percentage rate, or APR, should reflect any fees.

You may become upside down on your loan

When you take out an auto equity loan, you’re adding to any amount you already owe if you haven’t already paid off the vehicle. Because cars depreciate in value over time, you may end up owing more on the car than it’s currently worth. That’s also known as being upside down on your car loan, and it may mean you lose money if you try to sell or trade in your vehicle.

You risk repossession

Missing payments on your loan could worsen your financial situation. The lender could repossess your car, which may be your only source of transportation. And if the lender reports the repossession or your missed payments to the credit bureaus, your credit scores could be negatively affected.

It’s hard to find

Personal loan lenders are typically easy to find. An auto equity loan may be more difficult to find a lender for since many major lenders don’t offer them.

Auto equity loans pros

Below are some of the upsides to getting an auto equity loan.

They are easier to qualify for

Although auto equity loans may be risky, there is an upside. They allow you to tap a source of money that can be critical in emergencies. They’re also often easier to qualify for compared with traditional loans because your car acts as collateral.

Longer terms

They may come with longer terms and lower interest rates than other loans targeted at people with bad credit, like payday loans.

Where can I get an auto equity loan?

Some of the largest U.S. banks — like Wells Fargo, Bank of America, Citibank and Chase — don’t offer auto equity loans. But you may be able to find them at other lenders like credit unions and online lenders.

The terms of your auto equity loan will depend on your credit history, income and the value of your car. Keep this in mind when you’re shopping around: 36% is the upper limit of what’s considered an affordable interest rate, according to a report from the National Consumer Law Center.

The interest rates that credit unions can charge on most loans is capped at 18% according to the Federal Credit Union Act. This may make looking at credit unions for an auto equity loan more advantageous.

If you apply for an auto equity loan, the lender will typically check your car’s worth and verify how much equity you have. The lender may also check that the car is registered in your name, ask for proof of income and require that you have comprehensive and collision car insurance.

Alternatives to auto equity loans

In a financial emergency, it may be hard to find a quick loan with affordable terms. See if these other options might make more financial sense for you.

  • Auto loan refinance: If you’re struggling to make monthly payments, you may want to look into refinancing your car loan. You may pay less by getting a lower interest rate.
  • Trade in your car: You may be able to trade in your car for something cheaper that still fits your needs.
  • Unsecured personal loan: These loans aren’t secured by collateral, so you may pay higher interest than with a secured loan. But you won’t be at risk for losing your property if you can’t make payments.
  • Payday alternative loans: These small-dollar loans are offered through federal credit unions and come with consumer protections like a cap on fees, a ceiling on interest rates and term lengths ranging from one to 12 months.
  • Borrowing from family: Although it may be hard to approach a family member for a loan, it may be better financially than taking out a risky loan. But before you borrow money, discuss expectations, like a monthly payment plan and deadline.
  • Bill extensions: If you’re behind on your bills, contact the company and explain your situation. It might grant you an extension for a short period of time if it believes you’re acting in good faith and the situation is temporary.

Bottom line

Auto equity loans let you borrow against the value you have in your car. But like with any secured loan, you risk losing that collateral and your credit taking a hit if you can’t make payments on time. That’s why it’s probably best to use these loans only in a financial emergency — after you’ve exhausted all other options.

FAQs about auto equity loans

What’s the difference between auto equity and car title loans?

For a car title loan, you usually have to own your car outright, and the loan is usually due much quicker than an auto equity loan. Car title loans also tend to have high interest rates.

How can I get an auto equity loan?

First, you’ll need to have some equity in your car to be eligible for an auto equity loan. Then, you’ll need to find a lender and submit an application. If you’re approved, you may have the money as soon as the same day depending on the lender.

About the author: Kim Porter is a writer and editor who has written for AARP the Magazine, Credit Karma, Reviewed.com, U.S. News & World Report, and more. Her favorite topics include maximizing credit card rewards and budgeting. Wh… Read more.