If you’re looking to buy a new car, you might be looking for a loan to help finance it. Two of the most common types of loans are car loans and personal loans, and we’ll help you navigate the advantages and disadvantages of each so you can decide which is best for you.
A car loan is a type of loan that, as the name suggests, is strictly used to purchase a vehicle. If you’re taking out a secured car loan, the loan will be secured by the vehicle you’re purchasing. This means that the vehicle serves as collateral against the loan, and gives the lender the peace of mind that if you’re no longer able to make your loan repayments, they can repossess the vehicle to recoup their funds. Depending on the type of car you’re looking at buying, the choice of a car loan or personal loan might be made for you. For example, if you’re looking to buy a second hand or older model car, you may not be eligible for many secured car loan products and so an unsecured personal loan would be your best option.
Pros of a car loan
Lower interest rate
When taking out a secured car loan, you’ll be required to use your vehicle as security against the loan. Because lenders have the security that they will be able to recover their funds if the loan goes sour, they will typically view your loan as a lower risk product. This means that they will normally be able to pass on a lower interest rate, so you’ll end up paying less money over the life of the loan.
In most cases, you’ll use the car you’re purchasing as security against the loan, but in some circumstances you’re able to use another asset, like a house or term deposit, as security.
Credit history is less important
Another advantage of a car loan is that your credit history is less important than if you were getting an unsecured personal loan. Because you’re giving the lender the security that your new car is going to be used as collateral, they might be able to overlook your bad credit history. The importance of your credit score will vary greatly between lenders, but our smart finance platform will automatically take your credit history into account to find you the best rates.
Ability to borrow a larger amount
In many cases, lenders will be able to offer you a larger loan with a secured car loan than with an unsecured personal loan. If you’re looking to borrow a large amount of money to buy your new car, getting a secured car loan might be the best option for you.
Cons of a car loan
You don’t have full ownership over the car until the final repayments are made
The nature of a secured car loan means that you technically don’t have full ownership over the car until the entirety of the loan has been paid back. As mentioned above, this means that the lender is able to repossess the car if you default on your monthly repayments.
Strict criteria and restrictions
Because car loans are typically secured, lenders normally have quite strict lending criteria. In addition to being able to repossess the vehicle in the event that you default on your repayments, they also often have an age limit on the vehicle you’re purchasing, and can exclude used cars. Additionally, the approval process is normally longer and more detailed, so may not be ideal if you’re looking to secure funds very quickly.
Unlike a car loan, a personal loan can be used for a number of different purposes. Typically, a personal loan will provide the borrower with a lump sum of funds for the borrower to use at their discretion. Personal loans can be secured against an asset, but they are more commonly unsecured, which means that the loan is made without any collateral.
Pros of a personal loan
No restrictions on how funds must be spent
Unlike the restrictions that accompany a car loan, personal loans don’t normally have any restrictions on how the money must be spent. This gives you ultimate flexibility over how exactly you want to spend your loan money. In most cases, you’ll receive funds in a lump sum from your lender, which can be a great option for some borrowers. For example, if you borrowed more money than the cost of the car you could use the leftover funds for another purchase or for a car related expense like servicing, registration or petrol.
You don’t need to provide collateral
Because most personal loans are unsecured, you typically won’t need to provide any form of collateral. This means that in the event you default on your repayments, the lender won’t be able to immediately repossess your car. However, you might face legal ramifications (which would be a much messier process!) and you could still end up losing your car.
Cons of a personal loan
Higher interest rates
One of the main drawbacks of personal loans is that the interest rates typically are higher than what you’d receive with a car loan. This is because you’re not providing your lender with any collateral, and therefore your loan will be viewed as higher risk.
This higher interest rate means that not only will the amount you pay monthly be higher than with a car loan, you’ll also likely end up paying more in total over the life of the loan.
A poor credit score may disqualify you from a loan or cause you to receive a higher interest rate
Additionally, if you’ve got a bad credit score, you might be ineligible for a loan with some of the stricter lenders on our panel. For the lenders who have less stringent criteria on credit ratings, you might be able to secure a loan but you’re likely to find yourself paying a very high interest rate.
This is because unlike a car loan that looks at a variety of factors when determining your rate (such as age and value of vehicle), a personal loan only has your credit score to consider.
Before applying for a loan, it’s a good idea to check your credit history. You can do this for free with our friends at Equifax. When you apply for your personalised quotes with Driva, we’ll run a ‘soft credit check’, which means that it won’t record any inquiries on your file or impact your credit score in any way.
Lower limit on amount you can borrow
Finally, you might find that many lenders have a lower borrowing limit on personal loans. This is due to the fact that the loan is unsecured, and therefore much riskier for the lender.
Things to consider
There are a number of factors that you should consider before deciding on a loan type.
- How much am I able to pay in monthly repayments? If paying the lowest amount in monthly repayments is your biggest priority, you’ll probably want to try and secure a secured car loan, as these tend to attract lower interest rates.
- Do I want my loan to be secured against my car? Or unsecured? It’s important to think about whether you want to use your car, or any other asset, as collateral against your loan. While a secured loan means that your car would be repossessed if you default on your loan, defaulting on an unsecured loan could result in legal action against you.
- Do I want to purchase a new car or a second hand car? Whether you’re looking at a new car or a second hand car can have a big impact on what types of loans you’re eligible for. Typically, secured car loans are better for new cars and unsecured personal loans are more suitable for older and used cars.
- What’s my credit score? If you don’t have a great credit score, you might find it harder to secure a car loan, and a personal loan might be a more achievable option.
Both car loans and personal loans are great options if you’re considering financing your new car. A car loan could be a great option if you’re looking to buy a new (or newer model) car and want to spend less money over the life of the loan. Alternatively a personal loan might suit you better if you’re buying an older car that might not qualify as security, or if you want a bit more flexibility on how you can spend your loan money. All of the lenders that Driva works with offer fixed rate loans, which means that the amount you pay each month won’t change over the course of the loan.