Can a car be used as collateral for a loan?

When you borrow money with a personal loan, you may have the option to offer an asset as collateral or security on the loan. Under this arrangement, if you don’t keep up with your repayments and default on the loan, the lender will have the option to legally repossess and sell your asset to get their money back.

The type of asset that can be used as collateral may vary depending on the lender and the type of loan you’re applying for, but may include: 

• Motor vehicles (including the car you’re using the loan to buy)
• Equity in a property that you own outright or hold a mortgage on
• Cash saved in a term deposit
• Shares or similar investments
• Other high-value items, such as jewellery or fine artworks

A loan that’s been secured with collateral is generally less risky for a lender to provide, as repossessing and selling the security should help to minimise any financial losses if the borrower defaults on the loan. Thanks to this lower risk, lenders often offer lower interest rates on secured loans than on unsecured loans.

Also, if you’ve had money troubles in the past and your credit score is not as high as it could be, you may struggle to be approved for an unsecured loan as the lender may consider you a credit risk. But if you can offer up an asset as collateral to secure the loan and lower the lender’s risk, your loan application may have a higher chance of approval.

The biggest risk of using collateral to secure a loan is that there’s a chance you could lose your security asset if you don’t keep up with your repayments and default on your loan. So if, for example, you secured a loan against a car and you were to default, the lender could repossess and sell your car, leaving you without a vehicle to get to work, pick up the kids, drive to the shops and so on.

Lenders may also have restrictions or limitations on the types of assets they accept as collateral on a loan. This may vary with different lenders, but generally a security asset will need to hold a minimum amount of value to be acceptable. The maximum amount of money you can borrow in a secured loan may be limited by the value of the collateral – you may only be able to borrow a percentage of the asset’s value.

The lender may also need to be confident it can easily sell the security asset to recoup its losses later if required. If you can’t provide an asset that suits the lender’s requirements, you may not be able to apply for a secured loan.

One popular way to purchase a motor vehicle is to use a secured car loan. This is where the value of the car you’re buying is used as collateral for your car finance.

Because cars are depreciating assets, and the vehicle being used as security will need to hold enough value to secure the loan, many lenders limit these loans to the purchase of new vehicles, or used vehicles under a maximum age (e.g. less than 7 years old). This also helps to reduce the risk that the car will break down and need to be written off due to mechanical failures from wear and tear, which can be a higher risk with older used cars.

Some lenders may also require that only specific vehicle makes and models may be used as collateral for a secured car loan, and require that the vehicle is covered by a comprehensive car insurance policy. While you may pay a higher purchase price for a newer car, you may also enjoy a lower interest rate from your secured car loan.

Keep in mind that secured car loans can usually only be used to pay for the car being purchased. It may not always be possible to borrow extra money to help cover additional costs, such as stamp duty, registration, insurance and more. You can check each lender’s terms and conditions to see if extra finance could be available to you.

If you own a car outright, you may be able to use it as security when applying for a personal loan to pay for another major expense, such as a home renovation project, a holiday, or a wedding. You’ll still be able to drive the car while it’s being used as security for a personal loan, though you risk losing it if you default on the loan repayments.

The amount you’ll be able to borrow and the interest rate you’ll be offered for a personal loan with a car as security may vary depending on your income and expenses, as well as the value of the car you’re using as collateral. You may only be able to borrow up to a maximum percentage of the car’s value.

Your credit score may also affect your personal loan application. You can check your credit score for free to get a better idea of how lenders see you as a borrower, and to work out what kind of loan applications are more likely to be accepted.