Can I Use a Personal Loan to Buy a Car?

Personal loans are incredibly versatile. They can be used for nearly any purpose, including the purchase of a car. But just because you can use a personal loan to pay for a new vehicle doesn't mean it's a good idea. You're almost always better off using a traditional auto loan to finance a vehicle. Here, we'll explain why.

When it can make sense to use a personal loan to buy a car

Personal loans can be used for anything, whether it's to pay off credit card debt through debt consolidation, get rid of a high-interest loan, or make a car purchase. And though it's rare, there are occasions when a personal loan is your best car finance loan option.

If any of the following situations apply to your car purchase, you may consider contacting a bank, credit union, or online lender about a personal loan:

• You're buying a car from a private party. While banks offer auto-specific loans to purchase cars from individuals, you need to find a patient seller willing to jump through some hoops. Understandably, sellers who list their cars on Craigslist, eBay, or Bring-A-Trailer would prefer cash or a cashier's check rather than going through a multi-day wait for you to get approved to buy their specific car. It can make sense to use a personal loan to fund this purchase.
• You don't want to carry full coverage insurance. To get a traditional auto loan, you need to carry "full coverage" car insurance for the vehicle. This includes collision and comprehensive coverage to provide financial protection against damage, theft, and other risks. This is certainly true if you accept dealer financing or finance through a bank. If you use a personal loan to buy a car, you don't have to carry full coverage auto insurance. That can save you some money. For example, if you want to buy a $3,000 car for a high-risk 16-year-old driver, a personal loan and a liability car insurance policy may be less expensive than an auto loan and comprehensive insurance.
• You're buying a project car. Sorry, shade-tree mechanics, most banks aren't interested in making auto loans for cars that aren't road-worthy. Older cars, damaged cars, or cars with salvage or rebuilt titles can be difficult to finance with a traditional auto loan. If a car looks more like a pile of parts than an operable vehicle, a personal loan may be the only way to finance it.

To be clear, these are very specific circumstances that affect very few people buying cars. Even then, it's not clear that using a personal loan to skirt auto lenders' insurance requirements or to fund the purchase of a project car is the smartest financial move. But if you're going to do it, a personal loan may be the only way.

Why you might not want to use a personal loan to buy a car

Traditional auto loans exist because they're a better fit than a personal loan for the vast majority of used or new car purchases. Here's why you might want to stick with the tried-and-true auto loan when buying a car:

• Personal loans can carry a higher interest rate than the average loan through a car dealer or bank. A traditional car loan is ultimately backed by collateral (in this case, the vehicle), a fact that keeps the interest rate down. After all, the lender knows that if you miss payments they can repossess the car, sell it, and recoup their losses. Most personal loans are not backed by collateral -- as a result, lenders typically charge higher interest rates on personal loans. People with good credit, with very few exceptions, pay as much or more for a personal loan as for a similar auto loan. A handful of banks have rolled out unsecured loans (no collateral) designed for auto purchases -- with similarly low rates despite being unsecured -- but only people with very high incomes and excellent credit scores qualify.
• Less time to repay. While the typical personal loan is repaid in three years, some lenders stretch out loans to five years. In contrast, car loans can have repayment terms of seven years, sometimes even longer. While I wouldn't recommend stretching out a loan as long as possible, some borrowers simply need more time to repay an auto loan. If a longer loan term is a priority, an auto loan is the best way to go.
• Larger limits. All else being equal, it's generally easier to borrow more money when the loan is backed by collateral than when it isn't. A borrower who easily qualifies for a $20,000 auto loan may only qualify for a $10,000 personal loan. In addition, lenders often have hard caps of $40,000 or less for personal loans, whereas true auto loans usually have much higher limits for those with the income and credit score to support it.

The calculator below can give you a better idea of whether or not a personal loan is right for you. Play around with different loan amounts and loan terms to see what fits your budget.

You can use a personal loan to buy a car, and in some cases, it can be the easiest and most practical solution. But auto loans remain the most popular way to finance a car for the simple reason that they often offer the best mix of interest rates, repayment terms, and availability for the vast majority of car purchases.