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Personal Loan Vs. Auto Loan: Differences and Which is Better?

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Brian O'Connell

Brian O'Connell

Updated June 28, 2021
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Personal Loan vs Auto Loan: Differences & Which is Better ; Can you use a personal loan to buy a car? In a lot of cases you can, but there is more you need to understand before you do so as some loans have restrictions.
Which is the better deal when you’re buying a car—a personal loan or an auto loan?While interest rates, repayment terms, and loan fees matter when you’re considering  a personal loan versus an auto loan, the decision that works for you depends on your unique financial situation, needs, and goals.In order to make an informed decision about using a personal loan or an auto loan to buy a car, there’s another question you have to consider first; What are the pros and cons of each option in my specific situation?Let’s take a closer look at both options to see which might work better for you.

Personal Loan Vs. Auto Loan: Definitions and Differences

There are many factors to keep track of as you make your decision. This chart summarizes a few of the most important for many people.

What is a Personal Loan?

Here are several key features of personal loans.
  • A personal loan is funding that you borrow from a financial institution, i.e., a bank, credit union, or online lender, to cover specific and usually immediate financial needs. That includes the possibility that you might be applying for a personal loan to get a car, but the format is not auto-specific.
  • While buying a car certainly qualifies as a reason you might want a personal loan, those loans are typically borrowed to cover short-term financial needs, like covering a medical bill, filling college financing gaps, or consolidating personal debt.
  • Personal loans are structured so that you repay them in fixed monthly payments, usually for a term between two and seven years (although the repayment term may extend further than that, depending on the lender.)
  • Personal loans are typically an option if you can’t rely on emergency funds or savings accounts to cover a relatively unexpected cost.
  • Personal loans may or may not require collateral like a savings account or house (they are termed secured if they do, and unsecured if they don’t). Typically, the lender’s decision to approve the loan comes after it vets your financial health, including credit score, annual income, cash flow, employment status, and household debt-to-income ratio. If your loan is secured, it may also need confirmation of your collateral’s worth.

What is an Auto Loan?

Here are several key features of auto loans.
  • Auto loans are secured loans that are typically provided by banks, credit unions, online lenders, and auto financing companies. The lender “secures” the loan by requiring that the auto to be purchased with the loan serve as collateral for that loan. In other words, if you default on an auto loan, the lender can repossess the vehicle and use it to cover the loan costs.
  • With an auto loan, you agree to repay the funds over a specific period of time, usually between three and seven years.
  • Interest rates tied to auto loans are fixed. For a borrower with a credit score of 600 or higher, the average annual auto loan rate for a new vehicle is around 3.00%. For a used auto, expect to pay an interest rate of around 3.5%.
  • Auto loan applications will usually also require a credit check, along with a review of your recent work history, household income, debt-to-income review, and a history of any loan defaults.
Both personal loans and auto loans can be accessed directly with the lender or through online loan comparison platforms that allow you to review multiple loan offerings and make the best choice for your auto purchase needs.Once a decision is made, the loan application can easily be completed online, at the lender’s location, or over the phone with a customer service representative.

Factors to Review Before Borrowing Money to Buy a Car

Whether you’re using an auto loan or personal loan to buy a car, there are some common realities you’ll probably want to review before moving forward with the loan and the purchase.
  • Loan interest rate. By and large, auto loans may have a lower interest rate than personal loans. That’s mostly due to the security built into the auto loan. With an auto loan, the lender already has collateral in the form of the vehicle. That reduces the lender’s risk of losing money, which typically translates to lower interest rates.
  • Loan fees. Both auto loans and personal loans come with fees. You should understand the fees (what they are, why they’re being charged, and in what amount) before you make any loan decisions. Common loan fees for both auto and personal loans may include origination fees (charged basically for processing the loan), documentation fees (charged by car dealerships to process an auto’s paperwork), late payment fees (charged if your payments are late), early repayment fees (which may be charged if you want to pay off your loan early), and destination/sticker fees (which reflect what manufacturers may charge to ship a new car to the dealership lot). Those fees can add up to several hundred dollars so it’s a good idea to vet them thoroughly.
  • Down payments. Unless you’re paying cash, auto lenders require down payments. Typically, they aim for at least 20% of the cost of a new vehicle and around 10% for a used vehicle. If you’re using an auto loan, expect to be asked for a down payment based on a percentage of the vehicle’s estimated value. If you’re getting an unsecured personal loan, you won’t be asked for a down payment, though you may be asked about the intended use of the loan before you’re approved.

Pros and Cons of Using a Personal Loan to Buy a Car

What are the upsides and downsides of leveraging a personal loan to buy a car? Here’s a snapshot. 

Pros of a Personal Loan

  •  No strings attached. With a personal loan, the lender doesn’t mandate how you use the loan money. While you may be required to give the reason for the loan on the application, the lender probably won’t force you to use the cash to buy a new vehicle.
  • No collateral required. When using a personal loan to purchase a car, you frequently won’t have to provide any collateral for the loan. Better yet, your personal loan lender can’t repossess the vehicle if you fall behind on payments (although in that scenario, your credit score may suffer.) 

Cons of a Personal Loan

  • Higher interest rates. Since personal loans are often unsecured, in which case they  require no collateral, lenders may look to protect themselves with higher interest rates than they charge on auto loans. Depending on your credit, personal loan rates clock in at 5.99% on the low end and up to 20% or more on the high end. Those rates are significantly higher than the average auto loan rate, which stands at between 2.5% and 5% in 2021.
  • Harder to get approved. Typically, personal loan applications are reviewed more diligently by lenders compared to auto loans. That’s primarily due to the unsecured nature of many personal loans. As lenders want to make sure they’re lending to a borrower who will pay the loan back, they’re more likely to take a harder stance on loan approvals and thoroughly vet the financial health of any personal loan borrower.

Pros and Cons of an Auto Loan to Buy a Car

Here’s a look at the upsides and downsides of leveraging an auto loan to land a new set of wheels. 

Pros of an Auto Loan

  • Lower interest rates. The difference between a $10,000 loan with an interest rate of 4% and one at 8%, can amount to thousands of dollars over a multi-year period. Consequently, the likelihood that you’ll get a lower interest rate on an auto loan can be a significant factor in deciding between the two loans. 
  • Quick approval. If you have decent credit and you’re in the midst of negotiating a new car purchase with a dealer, chances are you can get a quick loan approval via the dealer’s auto financing company. While getting a quick approval is great, it’s not a good reason for you to rush into making a major financial decision. That said, quick access to an auto loan approval can prove valuable if you’ve spotted the vehicle of your dreams and want to lock down a deal.

Cons of an Auto Loan

  • Patience is required. Much like a mortgage borrower isn’t really the owner of the home until the loan is paid off, an auto loan borrower won’t take full possession of the vehicle title until the auto loan is fully paid off.
  • Down payment. Auto loan providers expect a down payment before signing off on the loan deal. Any resistance you put up on the down payment could well lead to a “no” on the loan application, so it’s best to come to the bargaining table with a decent down payment before applying for an auto loan.

The Takeaway

There’s a lot to consider about what kind of funding is best when you’re looking to buy a car, and a lot depends on your situation. But if you’re in the market for a new car, truck, or SUV, and you want to save money over the life of the loan, working with an auto loan provider may be your best bet, since auto loans typically come with lower interest rates.Correspondingly, if you don’t want to partner up with an auto loan provider and simply need some quick cash to lock down a new car purchase (without a down payment or collateral), a personal loan can provide that flexibility for you.Whatever your decision, it can be helpful to see the range of what kinds of loans you might qualify for. Lantern can help. If you fill out this easy form, you can compare the resulting offers from our lending partner network.
Disclaimer: Many factors affect your credit scores and the interest rates you may receive. SoFi is not a Credit Repair Organization as defined under federal or state law, including the Credit Repair Organizations Act. SoFi does not provide “credit repair” services or advice or assistance regarding “rebuilding” or “improving” your credit record, credit history, or credit rating. For details, see the FTC’s website on credit (https://www.consumer.ftc.gov/topics/credit-and-loans)To check the rates and terms you may qualify for, SoFi conducts a soft credit pull that will not affect your credit score. A hard credit pull, which may impact your credit score, is required if you apply for a SoFi product after being pre-qualified.The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.SOLC0421053

About the Author

Brian O'Connell

Brian O'Connell

Brian O’Connell is a freelance writer based in Bucks County, Penn. A former Wall Street trader, he is the author of the books CNBC's Creating Wealth and The Career Survival Guide. His work has appeared in multiple media platforms, including TheStreet.com, Bloomberg, CBS News, Yahoo Finance, and U.S. News & World Report.
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