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Secured Vs Unsecured Car Loans

Secured Vs Unsecured Car Loans

Purchasing a new or used vehicle is one of the largest financial decisions many people make. With the average price of a new car now over $47,000 in Canada, most buyers need to get an auto loan to afford the full cost. When applying for financing, one of the first choices is deciding between a secured or unsecured car loan.


These two main types of auto loans have important differences that impact everything from interest rates and approval odds to long-term costs and responsibilities. Understanding the distinctions is critical to choose the best loan option for your situation and budget.


In this comprehensive guide, we’ll examine secured versus unsecured car loans in depth. We’ll look at how each works, compare their pros and cons, costs, qualification requirements, and more. Our goal is to provide the knowledge you need to make an informed decision when buying a car.

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What is a Secured Car Loan?

A secured car loan is a type of loan that uses the vehicle being purchased as collateral for the loan. This means that the lender can repossess the car if the borrower defaults on the loan and fails to make payments. Secured car loans are attractive to lenders because the car serves as a form of insurance – if the borrower can’t pay back the loan, the lender takes the car and sells it to recoup their losses. This lower risk allows lenders to offer better interest rates on secured car loans compared to unsecured options.

With a secured car loan, the lender retains ownership of the car’s title until the loan is fully paid off. Only then is the title transferred to the borrower. This gives the lender the right to repossess the vehicle if the borrower misses too many payments. The lender can seize the car, sell it, and use the proceeds to settle the remaining loan balance. Because repossession is an option, secured loans provide more confidence for lenders to approve borrowers with lower credit scores or income levels compared to unsecured loans.

For example, John has bad credit but finds a $15,000 used car he wants to buy. He gets approved for a secured car loan at a 6% interest rate, putting the car title as collateral. His monthly payments are $330 over a 5-year loan term. As long as John makes the payments, he keeps the car. But if he misses payments, the lender can repossess the car to get their money back since they hold the title until it’s fully paid off.

 

Benefits of Secured Car Loans

Secured car loans offer several advantages that make them appealing financing options for many borrowers:

 

Lower Interest Rates Save Money

The most notable benefit of a secured auto loan is that it typically comes with a lower interest rate than an unsecured loan. This is because the lender faces less risk since the vehicle serves as collateral that can be repossessed if the borrower defaults on payments. The lower rate saves money over the life of the loan compared to a higher-rate unsecured loan with the same principal amount.

 

Easier Approval With Lower Credit

Since the lender has the assurance of collateral with a secured car loan, approval is usually easier to obtain than an unsecured loan, especially for borrowers with lower credit scores. While excellent credit will qualify you for the very best rates, secured loans can be attained with fair or average credit in many cases when unsecured loans would be difficult to qualify for.

 

Bigger Loan Amounts Possible

The lower risk of a secured auto loan also means lenders are willing to provide larger loan amounts compared to unsecured loans. This makes it possible to get financing for more expensive vehicles with a secured loan. Loan-to-value ratios up to 135% may be possible with some secured car loans.

 

Build Credit With Payments

As with any type of installment loan, making timely monthly payments on a secured car loan contributes to improving your credit score over time. Responsibly managing a secured auto loan account demonstrates to lenders that you can handle this type of credit obligation, boosting your credit profile.

 

Drawbacks of Secured Car Loans

While secured car loans offer some advantages, they also come with some potential drawbacks to be aware of:

 

Risk of Repossession

The biggest downside of a secured auto loan is the risk of having your vehicle repossessed if you fall behind on payments. Since the car is used as collateral on the loan, the lender has the right to take back the vehicle if you default. This can leave you without a car and still owing money on the loan.

 

Paying for Gap Insurance

With a secured car loan, gap insurance is usually required. This adds to the total cost of the loan. Gap insurance covers the difference between what your vehicle is worth and what you still owe on the loan, should the car get totaled in an accident before the loan is paid off.

 

Lien Holder Keeps Title

Since your car is used as collateral for a secured auto loan, the lender places a lien on the vehicle title. This means the lien holder (the lender) keeps possession of the title until you finish repaying the loan. So you don’t fully own the vehicle until the secured loan has been paid off.

 

What is an Unsecured Car Loan?

An unsecured car loan is a loan that does not require any collateral to secure it. This means the lender does not have a claim on the car or any other asset if the borrower defaults on the loan. Unsecured loans generally have higher interest rates because there is more risk for the lender. If the borrower stops making payments, the lender has no recourse other than legal action to try to recover the unpaid balance.

With an unsecured auto loan, the title and ownership of the vehicle pass directly to the borrower once the loan is paid off. There is no lien holder, so the borrower has clear ownership. Even if payments are missed, the lender cannot repossess the car since there is no collateral tied to the loan.

Unsecured car loans are also more difficult to qualify for since the borrower’s credit score, income, and other factors are the primary criteria rather than the value of the car. Lenders want to see a strong credit history and stable financial situation before approving an unsecured auto loan.

Examples of unsecured car loans include personal loans, signature loans, and lines of credit when used specifically for an auto purchase. The lender provides funds for the car, but without tying the loan to the title or placing a lien on the vehicle.

 

Benefits of Unsecured Car Loans

Unsecured car loans offer some key advantages that make them worth considering for your auto financing needs:

 

No Repossession Risk

With an unsecured auto loan, your vehicle can’t be repossessed if you fall behind on payments. Since there is no collateral tied to the loan, the lender has no direct claim to take back your car. This gives you more security in keeping possession of your vehicle.

 

No Gap Insurance Needed

Gap insurance covers the difference between what your car is worth and what you still owe on your loan if your vehicle is totalled or stolen. This extra protection is required for secured loans to avoid owing more than the car’s value if it’s lost. With an unsecured loan, gap insurance isn’t needed since there is no collateral to cover.

 

Some Lender Flexibility

Certain lenders may offer more flexible terms on unsecured auto loans regarding factors like early payoff or choosing your own payment dates. There can be variation between lenders, so it pays to shop around if you want specific options.

 

Drawbacks of Unsecured Car Loans

While unsecured car loans provide more flexibility and avoid the risk of repossession, they do come with some potential drawbacks to be aware of.

 

Higher Interest Rates

One of the biggest disadvantages of unsecured auto loans is that they tend to have higher interest rates. Since there is no collateral, lenders consider these loans to be riskier. To compensate for the increased risk, lenders charge higher interest rates on unsecured car loans.

The interest rate difference can be significant. Unsecured car loan rates are often 3-5% higher than secured loan rates for borrowers with the same credit profile. Over the term of a 5-year loan, that can add thousands of dollars in extra interest payments.

 

More Difficult to Qualify

Getting approved for an unsecured auto loan can also be more challenging than qualifying for a secured car loan. Without an asset for collateral, lenders have to rely strictly on your creditworthiness.

As a result, unsecured car loan lenders typically require higher credit scores. Many set a minimum credit score of around 700. They also want to see a solid income, stable employment history, and low debt-to-income ratio.

Meeting the stricter eligibility criteria can be difficult, especially for borrowers with fair credit or other risk factors. Those who don’t meet the standards will likely be denied for an unsecured auto loan.

 

Lower Maximum Loan Amounts

Since unsecured loans are riskier for lenders, they tend to cap loan amounts at lower levels compared to secured car loans. It’s common for maximum unsecured auto loan amounts to be in the $20,000 to $25,000 range.

That may be fine for purchasing an inexpensive used car. But borrowers who need more financing to buy a pricier new or used vehicle would likely exceed unsecured loan limits. In those cases, a secured loan would be necessary to cover the larger amount.

 

Secured vs. Unsecured Comparison

When deciding between a secured or unsecured car loan, the main factors to consider are interest rates, approval odds, and the risks of repossession. Here’s an overview of how they compare:

 

Interest Rates

Secured loans will generally have lower interest rates, often significantly so. This is because the lender is taking on less risk by having the vehicle as collateral. With an unsecured loan, rates tend to be higher since the lender has no recourse if you default.

 

Approval Odds

Those with excellent credit scores can likely qualify for either type of loan. But for applicants with lower scores or limited credit history, approval is more likely with a secured loan. The collateral gives lenders more confidence to extend financing.

 

Risks of Repossession

Missing payments on a secured loan means the lender can repossess the vehicle being used as collateral. This risk does not exist with an unsecured loan. Your vehicle ownership is clear even if you default.

When evaluating secured vs. unsecured loans, be sure to compare all the terms carefully. Look at maximum amounts, repayment periods, fees, and qualification requirements too. While secured loans have some advantages, unsecured loans provide more flexibility and protection.

 

Lenders for Each Type

When it comes to getting a secured or unsecured auto loan, you have several options for potential lenders. Here is an overview of the main sources to consider:

 

Banks

Major banks like TD, RBC, Scotiabank, BMO, CIBC and others offer both secured and unsecured car loans. They will look at factors like your income, credit score, debt levels and down payment when deciding on loan approval and terms.

Banks may offer competitive interest rates to borrowers with good to excellent credit. You can apply directly at your local branch or via their websites.

 

Credit Unions

Local credit unions can be an excellent source for auto financing as well. Like banks, they offer both secured and unsecured loans with approval based on creditworthiness. Interest rates and terms from credit unions are often on par with major banks.

Credit unions are member-owned cooperatives and may be more flexible than banks when looking at an applicant’s overall financial situation. This makes them worth considering if you want a loan but don’t have perfect credit.

 

Dealerships

Going through the dealership’s financing department is a very common option for both secured and unsecured car loans. Dealers work with many lenders and can help find you approval.

However, dealership financing often comes with higher interest rates unless you have great credit. Be sure to compare any dealership loan offers to other lenders before signing.

 

Online Lenders

In recent years, online-only lenders like Mogo, Fairstone, and others have become major players in auto financing. They provide both secured and unsecured car loans, focusing mainly on customer convenience through quick online applications and fast approvals.

While online lender rates can be higher for people with poor credit, they may offer more flexible terms and lower rates for those with good credit scores compared to traditional institutions.

 

Improving Chances of Approval

Getting approved for the lowest rates on a secured or unsecured car loan is easier when you have an excellent credit score and manageable debt. Here are some tips to boost your chances of qualifying:

 

Boost Your Credit Score

Having a credit score of 740 or higher will unlock the best rates from most lenders. Here are some ways to improve your score:

 

  • Pay all bills on time each month
  • Lower credit utilization by paying down balances
  • Correct any errors on your credit reports
  • Become an authorized user on someone else’s account

 

Give yourself several months to improve your score before applying.

 

Aim for a Debt-to-Income Ratio Below 36%

Your debt-to-income ratio compares your monthly debt payments to your gross monthly income. Most lenders look for a ratio of 36% or less when approving loans. Reduce your ratio by paying down debts and increasing income.

 

Add a Creditworthy Co-signer

Asking someone with excellent credit to co-sign your auto loan can help you qualify and get better rates. Just know they’ll be equally responsible for repayment if you can’t pay.

Taking these steps in advance will go a long way towards getting approved for the best loan terms possible.

 

Other Auto Loan Options

In addition to secured and unsecured loans, there are a couple other ways to finance a car purchase that may be worth considering:

 

Leasing vs Buying

Leasing a car means you pay for essentially renting it long-term from the dealer or manufacturer. You make lower monthly payments compared to financing, usually for 2-3 years. At the end of the lease, you return the car unless you decide to buy it. Leasing advantages include lower payments, always having a newer vehicle, and the option to switch cars more frequently. Downsides are mileage limits, wear and tear fees, and no equity built up.

 

Refinancing an Existing Loan

If you already have an auto loan, refinancing to a lower interest rate can potentially save a lot of money over the loan term. Online lenders often offer the most competitive refinancing rates. To qualify, you’ll need a good credit score and enough equity built up in the vehicle. Refinancing also lets you switch from a secured to an unsecured loan once sufficient equity is reached.

 

Limits on Loan Amounts

When considering secured versus unsecured auto loans, one key difference is the maximum amount you can borrow. Secured car loans will generally have higher limits since the vehicle serves as collateral. Unsecured loans often have lower caps on the total loan value.

For secured auto loans, typical maximum amounts range from $25,000 to $100,000 depending on the lender and your financial qualifications. Those with excellent credit scores and income may get approved for the higher end of that range. People with poor credit will likely see lower maximums approved.

Unsecured auto loans often top out at around $25,000 for the loan amount. Some lenders may go up to $35,000 for the very best applicants who meet strict criteria. But for most people seeking an unsecured car loan, staying under $20,000 is recommended to ensure approval.

Factors that influence the maximum loan amount you can qualify for include:

 

  • Credit score – Higher scores unlock bigger loan caps.
  • Income level – More income means you can safely borrow larger sums.
  • Existing debt – Lower debt-to-income ratios improve borrowing ability.
  • Down payment – Larger down payments allow bigger loan amounts.
  • Vehicle value – Cost of the car impacts loan limits.

 

Knowing the approximate limits for secured versus unsecured car loans can help narrow down the price range of vehicles to shop for. Pre-qualifying with lenders is also recommended to understand your personalized maximum amounts before visiting dealerships.

 

Shopping for the Best Rates

When it comes to getting the most favourable interest rate and terms on a secured or unsecured car loan, it pays to shop around and compare offers from multiple lenders. Rates and qualification requirements can vary significantly between banks, credit unions, online lenders and auto dealerships.

Getting pre-approved before visiting dealerships is highly recommended. This allows you to know the rate and loan amount you qualify for in advance. With a pre-approval letter in hand, you can negotiate the best possible deal when purchasing a vehicle, without being at the mercy of whatever the dealer offers.

Online lender sites like LendingTree allow you to complete just one application form, then they provide loan offers from their network of partners. This makes rate shopping quick and easy. Be sure to also check with local banks and credit unions, as they may offer competitive rates as well.

By taking the time to check rates from 4-5 different lenders, you can identify the most attractive financing option. Just be sure to compare the Annual Percentage Rates (APRs) between loan offers, along with fees, terms and other costs factored in.

 

Correctly Evaluating Loan Offers

When comparing auto loan offers, it’s critical to look beyond just the interest rate. You need to consider the Annual Percentage Rate (APR), which accounts for all finance charges associated with the loan. This gives a more accurate picture of the true cost of borrowing.

Some key things to keep in mind when reviewing APR:

 

  • APR factors in interest rate plus fees like origination charges.
  • A lower interest rate doesn’t always mean lower APR.
  • Compare APR across multiple lenders to find the best deal.
  • Ask lenders to explain fees that impact APR.

 

You’ll also want to read the fine print of any auto loan offer carefully before signing. Key things to look for include:

 

  • Length of the loan term – Longer usually means lower payments but higher interest.
  • Whether the rate is fixed or variable – Variable rates may start low but increase over time.
  • Prepayment penalties – Fees if you pay off early.
  • Grace periods – Time you have before late fees are charged.

 

Evaluating loan offers thoroughly and understanding the implications of all costs and terms will put you in the best position to make a sound borrowing decision.

 

Conclusion

In summary, the key differences between secured and unsecured car loans are:

 

  • Secured loans use the vehicle as collateral, unsecured do not.
  • Secured loans have lower interest rates, unsecured are higher.
  • Secured loans are easier to qualify for, unsecured require good credit.
  • With secured you risk repossession if payments stop, unsecured do not.

 

When deciding which type of auto loan is right for your needs, consider your budget, credit score, risk tolerance, and loan amount needed. Secured loans tend to be better if you want lower rates and flexible qualification. But unsecured loans allow more confidence in keeping the vehicle if you hit financial hardship.

To get the best auto loan terms, it is wise to shop multiple lenders and get pre-approved before visiting dealerships. Compare all costs and fees, not just interest rates. Read the fine print to fully understand the loan terms and your responsibilities. With the knowledge from this guide, you can make an informed decision between secured and unsecured car loans.

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Questions About Secured & Unsecured Car Loans

A secured car loan uses the vehicle being purchased as collateral for the loan. This means the lender can repossess the car if you default on payments. An unsecured loan does not use the car as collateral, but approval is harder to get and interest rates are typically higher since the lender takes on more risk.

**Pros:**

– Lower interest rates, usually 1-7% lower than unsecured loans

– Larger loan amounts available

– Easier to qualify based on vehicle value

 

**Cons:**

– Vehicle can be repossessed if payments are missed

– Require comprehensive insurance coverage

– Early repayment fees may apply

**Pros:**

– Get to keep vehicle if payments are missed

– No collateral required

– No need for comprehensive insurance

 

**Cons:**

– Higher interest rates, usually 7-15%

– Lower maximum loan amounts

– Harder credit check and income requirements

– Need strong credit score to qualify

Most major banks like RBC, TD, Scotiabank, and CIBC offer secured car loans in Canada. Credit unions and online lenders like Fairstone Financial, Carfinco Financial, and Rifco National Auto Finance also specialize in auto lending. Dealerships can provide financing too.

Unsecured car loans are offered by some credit unions like Coast Capital Savings, Prospera Credit Union, Alterna Savings, and Steinbach Credit Union. Online lenders like Spring Financial, Auto Capital Canada, and LoanConnect also offer unsecured auto financing.

The minimum credit score for a secured car loan is around 600 at most Canada lenders. Those with scores in the 650-699 range can expect higher interest rates. Prime rates usually require 700+ scores. Having a cosigner with better credit helps those will lower scores qualify and get better rates.

An unsecured car loan typically requires good to excellent credit, with minimum scores around 680-700 at most Canada lenders. Those with scores under 700 can still qualify but will pay higher interest rates. Excellent 760+ scores get the best unsecured loan rates.

Secured car loans in Canada can finance 100% of the vehicle purchase price plus taxes and fees, allowing you to borrow up to $60,000 typically. Loan amounts primarily depend on the value of the new or used car. Higher values mean larger loan amounts are available.

 

 

Unsecured car loans often max out at $25,000 for those with good credit. Borrowing limits typically range from $5,000 to $35,000. Those with excellent credit scores can qualify for the higher loan amounts if income requirements are also met.

 

Those with bad credit below 600 will need to get a secured car loan in most cases. The lower rates and easier approvals make secured financing the best bad credit option. Improve your score first then consider an unsecured loan which won’t put your vehicle at risk.

When applying for a secured car loan, have these documents ready:

 

– Proof of income – recent pay stubs or tax documents

– Proof of residence – utility bill, bank statement

– Proof of auto insurance

– Vehicle details – make, model, year, mileage

– Down payment amount

– Driver’s license

To apply for an unsecured car loan, have these documents on hand:

 

– Proof of income – tax returns, recent pay stubs

– Bank statements

– Credit report

– Details on vehicle you want to purchase

– Driver’s license

– Proof of insurance if available

Those who have completed a consumer proposal can qualify for an unsecured car loan after it has been marked as settled/paid on your credit report, usually about a year later. Recent bank statements showing on-time payments help demonstrate changed habits to potential lenders.

A typical secured car loan term in Canada is 6 years, with some lenders offering terms up to 8 years. Unsecured loans often max out at 5 years. Those with better credit sometimes qualify for 6 years. The longer the term, the lower the monthly payment but higher total interest paid.

Yes, secured car loans are available to those on ODSP (Ontario Disability Support Program) or income assistance programs. Proof of monthly benefits plus any additional income is required. Subsidized down payments may also be available through provincial programs.

Missing payments on a secured car loan in Canada can lead to late fees, getting sent to collections, vehicle repossession, and severe credit score damage making future borrowing very difficult. Act quickly and communicate with your lender if you anticipate missing payments.

 

If you miss payments on an unsecured car loan, late fees, collections calls, getting sued for the balance, wage garnishment, and major credit score impacts can occur. Voluntarily surrendering the vehicle won’t cancel the remaining loan debt owed in most cases.

A secured car loan is the better option for rebuilding credit. Making consistent on-time payments builds positive credit history. Secured loans are easier to qualify for than unsecured loans if you have bad credit. Just make sure the lender reports your payment history.

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