Yes, you can use a personal loan to buy a car, and it could be a good choice in certain scenarios. But auto loans generally offer lower interest rates, making them a better option in most cases.
Car prices remain elevated in 2023 due to the persisting impact of the pandemic. The average loan amount for a new car is now $40,657 while used car loans average $26,863, both all-time highs, according to Experians State of the Automotive Finance Market for the second quarter of 2023. With the cost to purchase a vehicle so high, nearly 80% of new car buyers and 38% of used car buyers are financing their purchases.
Usually, auto loans are your best bet for financing, whether through the dealership, your credit union or another financial institution. However, personal loans are another option that may make sense under the right circumstances. Its often possible to use money from a personal loan to buy a car, but you should be aware of the pros and cons of doing so before choosing this route.
Buying a car is an exciting milestone but also a major financial decision. With the average new car price approaching $47000 in 2022, most people need to finance their purchase with an auto loan or other type of financing. But should you take out a personal loan instead? Here’s what to consider when deciding if a personal loan is the right choice for your car purchase
The Pros of Using a Personal Loan for a Car
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Flexibility: A personal loan provides money you can use for any purpose, not just a specific car. This gives you flexibility to shop around for the best deal on a car.
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Faster funding Personal loans can often be funded in 1-3 days once approved which is faster than waiting for dealership financing. This can be handy when buying from a private seller.
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No collateral required Personal loans are typically unsecured, so you don’t put the car up as collateral like with a secured auto loan This means the lender can’t repossess it if you default
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Possible lower interest rates: Auto loans tend to have lower rates, but people with good credit might be able to get a personal loan with a low rate. Compare options.
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Avoid dealer fees: Dealer financing can come with many extra fees for origination, documentation, advertising, accessories, etc. Personal loans generally just have an origination fee.
The Cons of Using a Personal Loan for a Car
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Higher rates: Personal loan rates are often higher, especially for those with poor/fair credit. Shop around for the best rates.
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Shorter terms: Personal loans may max out at 5 years, while auto loans can stretch as long as 7 years. Shorter terms mean higher monthly payments.
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Lower loan amounts: Lenders may approve you for less than the car’s price, so you’d have to make up the difference.
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Some personal loans charge fees if you pay off the balance early, but most auto loans don’t charge fees if you pay off the loan early.
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Interest that you can’t deduct from your taxes: You can deduct interest on an auto loan, but not interest on a personal loan.
Tips for Using a Personal Loan for a Car
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Shop lenders to compare loan amounts, rates, fees, and terms. Aim for the longest term available to get lower payments.
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You might want to get a secured personal loan with collateral if you need a bigger loan or a lower interest rate.
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Get pre-approved before shopping for a car so you know what you can spend.
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If the personal loan is more than the car price, use leftover funds to pay down the principal to reduce interest costs.
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Factor in additional costs like sales tax, registration, insurance, gas, and maintenance.
The Bottom Line
Personal loans can be a viable option for financing a car purchase in certain situations, like buying from a private seller, needing funds quickly, or avoiding high dealer fees. However, make sure to compare costs and terms with auto loans to see which works best for your budget and financial situation. Carefully calculating total costs and weighing pros and cons will help you make the right financing decision.
Cons of Buying a Car With a Personal Loan
While a personal loan is a viable option to purchase a vehicle, you must understand its drawbacks before applying for one.
- Interest rates that are higher: Personal loans usually have higher rates than auto loans and other secured loans. However, their rates are lower than some other types of credit. When lenders don’t have collateral to back up the loan, they charge you higher interest rates to cover their risk. Some lenders charge APRs as high as 23.6%.
- Less time to pay back the loan: Edmunds says the most common loan term for both new and used cars is 72 months, or six years. Personal loans, on the other hand, usually have shorter terms, between 12 and 60 months. Longer terms cost more in interest, but shorter terms cost less in interest over the life of the loan. If you spread out your loan over a longer term, on the other hand, your monthly payment will be less, but you may pay more interest over time.
- Tougher requirements to meet: Personal loans often have stricter requirements to meet because they are unsecured and carry a higher risk than secured auto loans. Your lender may want you to have better credit, more income, or a lower debt-to-income ratio if you don’t have any collateral to put up as security.
Can I Use a Personal Loan to Buy a Car?
As long as you meet a lenders loan qualifications, you can use a personal loan to buy a car. But should you? Auto loans are usually a better choice than personal loans because they have lower interest rates.
Experians latest Automotive Finance Market report lists the average auto loan interest rate at 6. 63% for new cars and 11. 38% for used cars. These auto loan averages are lower than the 12. 17% average interest rate on a 24-month personal loan, according to the Federal Reserve. If you want to spread your personal loan payments out over a longer term, you may pay a higher rate. Generally, personal loan interest rates can range from the single digits to 35% or higher, with terms on personal loans ranging from six months to 84 months.
You may still want to use a personal loan to buy a car if you don’t want to put up collateral or plan to use the loan money for something other than buying the car.
Personal loans offer high borrowing limits of up to $100,000 for eligible borrowers and can be used for nearly any purpose, even buying a car. But because of higher interest rates and stricter credit requirements, a personal loan might not be the best way to buy a car.
Car Loan Vs Personal Loan – Which is Better?
FAQ
Should I use a personal loan to buy a car?
You can use a personal loan to finance a used car if conventional financing isn’t available or if you can’t qualify for an auto loan. Rates can be higher and repayment terms shorter, compared to traditional auto loans. You may be able to avoid repossession of your vehicle if you default on a personal loan.
Is it better to get a private loan to buy a car?
For most borrowers, a personal loan is not better than an auto loan because auto loans are typically the cheapest way to finance a new or used car. Auto loans tend to be cheaper because they’re secured by your vehicle. If you don’t make payments, the lender can repossess your car to recoup what you owe.
Is it smart to take out a personal loan for a down payment of a car?
There are some problems with using a personal loan to pay for a car: Interest rates may be higher; because personal loans aren’t secured, they usually have higher interest rates than auto loans. Depending on the term, it could cost more to borrow the same amount.
Is taking a loan to buy a car a good idea?
Borrowing from a bank is a good thing, even for your first vehicle and even if you have the cash to buy the vehicle. An auto loan is a great benefit to your credit score, provided it is paid as agreed or better. A credit score requires a mix of revolving (credit cards) and installment (auto loans) loans.