How Do Secured and Unsecured Car Loans Work?

Are you planning to buy a new car? In case you do, car loans can be an excellent option! Like any other personal loan, a car loan lets you pay off your vehicle’s price in short monthly instalments.

But while car loans usually come with similar terms and conditions as personal loans, there are always a couple of differences. Below are some things you should be aware of before you choose your car loan.

Secured Car Loans

Car loans can be broadly classified into secured and unsecured car loans. For the secured loans, you’ll have to place a certain asset or security deposit with the bank or your lender. This will reduce the interest rate, which in turn will cut down the costs of financing your car. Additionally, it will also reduce the risks for your bank or lender.

In most cases, your car loan will be either secured by the vehicle you’re planning to buy, or by any other financial deposit. That being said, there are also other collaterals that can be used for financing your auto loan. Here’s everything you need to know about them.

New Car: Since your new car is your quickest source of collateral, many people go for it while taking a secured loan. Using your new car as a collateral becomes tad simpler when you’re taking the loan directly from your dealer. In this case, your car dealer won’t give you the title of your car unless you’ve paid off outstanding debts.


Old Car/Vehicle: If you already have another car or any other vehicle, you can always consider using it as a collateral. However, in order to qualify for this, you need to ensure that the old vehicle doesn’t have any outstanding debts.

Home Equity: You can also use your home equity as a collateral while buying a new car. However, this option is pretty risky, and you should only opt for it if you do not have any other collaterals available.

Stocks: Stocks can serve as an excellent collateral. If your lender has stock certificates, your stocks keep racking up in interests. This doesn’t just reduce the interest rate of your current loan but also comes with less risks. Since you’re not required to keep your investments, home or existing vehicle at stake for buying a new car, stocks are often considered as a viable option while buying a new car.

Savings Account: Just like stocks, your savings account will let you earn interest even while you’re paying off your loan. For this to work, you will have to apply for a loan against your existing savings account and this account will be on hold by the bank that’s financing your car. You’d still be able to spend money from your savings even when it’s being used as a collateral, but there’ll be a pretty thin window for maintaining your minimum account balance.

Unsecured Car Loans

Unsecured auto loans are ideal for people who cannot provide any security or collateral for financing their loan. While these loans usually come with higher interest rates, they do have some grounds for flexibility.  

For your unsecured car loan, your bank or lender will be under higher risks because even if you default or fail to pay your loan back, the ownership will continue to be with you. But there’s a downside: although there’s minimum scope for your lender to recover the financed amount, you will be permanently listed a defaulter in the credit markets.

Also, before you apply for an unsecured loan, do make sure that your credit score is high, you have a steady source of income and your debt-to-income ratio is low.

Final Thoughts

Since both secured and unsecured loans have their fair share of advantages and downsides, it is always better to weigh your financial condition before applying for them.

If you have a good collateral and are looking for lower interest rates in lieu of it, consider applying for a secured loan. Alternatively, if you have a high credit score and a steady source of income, you can always opt for unsecured loans.

Either ways, always check your ability of repaying the outstanding debts before taking a loan in the first place! In case you’re still baffled, try checking online financial marketplaces for a better insight on the kind of auto loan you should opt for.



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