Buying a car is one of the biggest investments you can make. With many cars priced at five figures, it’s easy to wonder just how you’ll pay for such a large purchase. When faced with the question of how you’ll finance your next car, you may wonder if a personal loan or car loan is the best way to pay for it. When deciding between a personal loan vs. car loan, here are some things you should consider.

Understanding Personal Loans

An unsecured personal loan is a loan made by a bank or lending institution that gives the borrower a lump sum for a certain amount. This sum may be used at the borrower’s discretion and can be used for major purchases or to pay off debt. Personal loans generally range from $1,000 to $50,000.

A secured personal loan is a personal loan secured against a valuable item such as a house or a car. If you are unable to repay the loan, the lender may seize your asset to recoup their losses. Most personal loans are unsecured loans.

What is a Car Loan?

A car loan is a loan used to purchase a vehicle. The loan is secured against the vehicle being purchased, making it collateral for the loan. The lender maintains ownership of the vehicle until the borrower makes the final payment. If you default on your loan payments, the lender may seize the vehicle.

Personal Loan Vs Car Loan

How Your Credit Score Factors

  • Both car loans and personal loans have interest rates based on your credit history. Personal loans typically have higher interest rates than car loans, sometimes as high as 29%. If you have bad credit, you may find it more beneficial to work to improve your credit score than being stuck with a high annual percentage rate (APR) on a personal loan or car loan.
  • Having bad credit can also make it hard to qualify for a car loan from either a lender or a dealership. In this case, you may need to take out a secured or unsecured personal loan. Like a car loan, defaulting on a secured personal loan could make you lose the title to your car. With an unsecured personal loan, you could be able to keep the title to your car should you default, but you still risk facing collections.

Using a Personal Loan to Buy a Car

  • When using a personal loan to buy a car, one advantage is that most personal loans are offered without any limitations to what the funds can be used for. A personal loan may offer you the convenience and flexibility of an unrestricted lump sum.
  • Personal loans can be offered by banks, credit unions, and online lenders. Interest rates for personal loans are primarily based on your credit history. Repayment terms for these loans generally involve set monthly payments made over several years.
  • Personal loans and auto loans both offer favorable terms for borrowers with good credit. For personal loans, credit scores below 580 may not be approved or may require a cosigner. You can still be approved for a car loan with poor credit as the lender could be able to repossess the vehicle if you default on the loan.
  • Personal loans generally require borrowers to pay origination fees to cover the underwriting of the loan. While they typically don’t come with any origination fees, car loans may sometimes come with prepayment penalties. Both car loans and personal loans come with annual percentage rates (APR), so it’s important to shop around for the right loan if you are considering either one for a car purchase.

Most car loans are typically offered at fixed 36 to 60-month terms, while personal loans usually have repayment periods starting at 12 months. With car loans and personal loans, longer loan terms offer lower monthly payments, but with more interest paid over the life of the loan.

While dealer-financed car loans may be more convenient for auto shoppers to obtain, personal loans may prove to be more effective for those with good credit or collateral to secure the loan. When shopping for a vehicle, you must do the proper research on all of your available financing options to determine which one is right for you.