What Is a Title Loan? - Pros, Cons, and Alternatives - 2023

What Is a Title Loan?

A title loan is a short-term loan that uses the borrower's vehicle as collateral. The most common type of title loan is a car title loan, which allows borrowers to use the equity in their cars to secure a loan.

The target group for a title loan consists of those who need instant cash funding and have relatively imperfect credit scores, which limit their access to other forms of credit.

However, they come with high-interest rates and short repayment terms, usually 30 days to six months. The loan amount depends on the vehicle's value and the lender's policies, but it is typically a percentage of the car's equity.

To qualify for a title loan, the borrower must own a vehicle in their name and provide it to the lender as collateral. If the borrower fails to repay the loan, the lender can repossess the car and sell it to recoup their losses.

Tip:

It's important to note that title loans are illegal in every state, and regulations vary widely. Some states have limited interest rates and fees, while others have banned title loans altogether. Borrowers must research the laws in their state and understand the terms and risks of a title loan before agreeing to one.

How Do Title Loans Work?

Title loans work by using the borrower's vehicle as collateral for a short-term loan.

Here's an overview of how the process typically works:

1. The borrower fills out an application with a title loan lender and provides information about their vehicle, such as its make, model, and mileage.
2. The lender will conduct an evaluation process to determine the market value of your vehicle. Based on the market value, the lender can issue a specific loan amount to the title loan borrower. This is usually not the total value of the car but a portion of the amount, and it varies among lenders, depending on their policies.
3. The borrower provides the lender with the car title as collateral and agrees to the loan terms, including the interest rate and repayment period.
4. The borrower receives the loan amount, usually in cash or via direct deposit.
5. Depending on the lender's policies, the borrower has a set amount of time to repay the loan, typically ranging from 30 days to six months.

If the borrower fails to repay the loan on time, the lender can repossess the vehicle and sell it to recoup their losses.

The terms & rates of the title loan

When taking out a title loan, it's important to understand the terms and rates of the loan. It's important to carefully review these terms and ask the lender any questions you may have before agreeing to the loan. Below are some key aspects of title loans.

Loan Amount:

The loan amount refers to the contracted sum that the lender issues to a title loan borrower based on the collateral, which is the car value, in a title loan.

The loan amount in a title loan depends on the value of your vehicle. Lenders generally offer loans ranging from 25% to 50% of the car's appraised value. However, the percentage varies depending on the lender's policy and your state's regulations.

Interest Rates:

An interest rate is a percentage representing the cost of borrowing money or an investment's return.For borrowers, the interest rate is usually presented as an annual percentage rate to determine the cost of borrowing. A higher interest rate means you are paying more for the loan. Conversely, you are paying less with a lower interest rate.

Title loans tend to have significantly higher interest rates than conventional loans, often ranging from 25% to 30% per month. This translates to an Annual Percentage Rate (APR) of 300% to 360%.

Repayment Period:

The repayment period refers to the specific length of time a borrower has to repay the loan, including the principal and any accrued interest. Title loans typically have short repayment periods ranging from 15 to 30 days.

Due to the high-interest rate and short repayment term, borrowers need to pay close attention to the repayment schedule, as the lender can repossess your vehicle if you default on a car title loan.Some lenders might offer extensions or rollovers, but these often come with additional fees and added interest.

Lender's Fees:

Besides interest rates, title loan lenders may charge additional fees, such as origination, document, or late payment fees. It's essential to understand these fees and their impact on the total cost of the loan.

Repossession Risk:

If you fail to repay the loan within the agreed period, the lender can repossess your vehicle. Sometimes, they may sell the car to recover the outstanding loan amount, potentially leaving you without transportation and still owing money.

Example of a Title Loan:

Suppose you own a car valued at $10,000 and need a quick loan. A title loan lender might offer you a loan of 40% of your car's value, which would be $4,000.

The interest rate for the loan could be 25% per month, translating to an APR of 300%. With a 30-day repayment period, you would owe $5,000 at the end of the loan term ($4,000 principal + $1,000 interest).

If you fail to repay the loan, the lender could repossess and potentially sell your car to recover the outstanding amount.

How Much You Can Borrow With a Title Loan

There is no universal answer because it can vary by lender and state regulations. A fair estimated range would be around 25% to 50% based on the vehicle's value.

Lenders will offer loans for a percentage of the car's equity, which is the difference between the vehicle's market value and any outstanding loans or liens on the car.

For example, if your car is worth $10,000 and you owe $3,000 on an auto loan, the equity in your vehicle is $7,000. If the lender offers a loan for 50% of your car's equity, you could borrow up to $3,500.

In addition, some states have limited the amount you can borrow with a title loan, and others have banned them altogether. Researching the laws in your state and understanding the terms and risks of a title loan before agreeing to one is essential.

When Should You Get a Title Loan?

Due to its features, such as high-interest rates and short repayment periods, title loans are highly recommended for handling short-term financial emergencies. However, be cautious, as you might end up in a worse situation by losing your car if you don't pay back the lender.

Some situations when you may consider a title loan:

Emergency expenses: Suppose you have an unexpected expense, such as a medical bill or home repair, and don't have the funds to cover it; a title loan may be an option.

Short-term cash needs: If you need cash quickly and have poor credit or limited access to other forms of credit, a title loan may be an option.

Business expenses: A title loan may be an option if you're a small business owner and need cash to cover the costs or purchase inventory.

Choose title loans with discretion.

The Consumer Financial Protection Bureau (CFPB) states that 20% of car title loan borrowers lose their vehicles due to an inability to repay the loan entirely. Over 50% of car title loans turn into long-term debt, and more than 80% of these loans are rolled over as borrowers cannot settle the debt in a single payment.

Given these facts, it's crucial to meticulously evaluate the loan terms and interest rates before opting for a title loan. It's also wise to explore alternative options, such as personal loans or credit cards, before committing to this type of loan.

Pros and Cons of Title Loans

Like any financial product, title loans come with their own set of advantages and disadvantages. Here are some pros and cons to consider:

Pros:

Easy access to cash: Depending on the lender and the application method, you might receive a check or deposit within a day for your title loan application. This quick approval procedure can be helpful in emergencies or when you need money quickly.

No credit check: Title loans don't require a credit check for approval, making them a viable option for people with poor credit scores or limited access to other forms of credit.

No restrictions on use: Unlike other types of loans, title loans don't have restrictions on how to use the funds. You can use the money for any purpose you see fit.

Cons:

Potential debt trap:

A debt trap is when you must take on new loans to repay old ones. As the cost of maintaining loans increases, it becomes increasingly difficult to break free from this cycle of debt.

High-interest rates: Title loans typically range from 25% to 300% APR or more. Make the loan very expensive, primarily if you can't repay it on time.

Short repayment periods: Title repayment periods are usually from 30 days to six months. This can make it challenging to repay the loan on time, especially if you're already struggling financially.

Risk of losing your car: If you cannot repay the loan, the lender can repossess your vehicle and sell it to recoup their losses. The consequences can be severe, especially if you rely on your car for work or other essential activities.

Title Loan Alternatives

If you're considering a title loan, exploring alternative options is vital before deciding. Here are some alternatives to consider:

Payday Alternative Loans

Payday alternative loans (PALs) are small-amount, short-term loans some credit unions offer to their members. PALs are designed to be an affordable alternative to high-interest payday loans and title loans, providing more accessibility and flexibility.

These loans typically have lower interest rates and fees than title loans and can be a good option if you need a small amount of cash quickly.

Collateral: No collateral is required for PALs.

The loan amount and interest rate: PALs typically range from $200 to $1,000 and have interest rates capped at 28%.

Personal Loans

Personal loans are a type of installment loan that can be used for various purposes, including debt consolidation, home improvements, and emergency expenses. It typically has more extended repayment periods than title loans and comes with fixed interest rates. Moreover, payday loans also do not require a credit check or conduct a soft check for applicants.

Collateral: Some personal loans, such as a car or house, may require collateral, while others are unsecured.

The loan amount and interest rate: Loan amounts and interest rates vary depending on the lender and state regulations. In most cases, you can borrow from $200 to a thousand, with the average payday loan amount being $370. The interest rate typically tops out around 36%, but some lenders charge origination or processing fees, which can be significant in most cases, and you want to pay attention to these types of costs.

Credit Cards

Credit cards can be a good option for short-term cash needs and help you build credit if used responsibly. It allows you to borrow money up to a specific limit and pay it back over time.

Credit cards require the cardholder to repay their balance every statement cycle (30 days), allowing for continuous access to available credit for purchases or expenses. Interest will accumulate on unpaid balances, but credit card interest rates are significantly lower than title loan rates.

Collateral: No collateral is required for credit cards.

The loan amount and interest rate: Credit limits and interest rates vary depending on the card and your credit history.

A credit card can be considered an interest-free loan if you pay off the statement balance due every month. However, it will be different if you only pay the minimum monthly balance, turning it from an interest-free loan into a high-interest loan.

Get Help From Friends and Family

Borrowing from friends and family can be a good option if you need money quickly and have a strong relationship with the person you're borrowing from.

Collateral: Usually No

The loan amount and interest rate: Loan amounts and interest rates vary depending on your arrangement with your friend or family member.

What Is the Difference Between a Title Loan and a Personal Loan?

Title and personal loans are both types of loans that can be used for various purposes. However, there are some critical differences between the two.

Collateral:

Title loans require collateral in the borrower's vehicle, while personal loans may or may not require collateral, depending on the lender and the borrower's creditworthiness.

Repayment period:

Title loans typically have short repayment periods, usually 30 days to six months, while personal loans typically have more extended repayment periods, ranging from one to seven years.

Interest rates:

Title loans typically come with higher interest rates than personal loans, often ranging from 25% to 300% APR or more. Personal loan interest rates vary depending on the lender and the borrower's credit history, but they are typically lower than title loan interest rates.

Credit check:

Title loans don't require a credit check for approval, while personal loans typically require a credit check and may require a minimum credit score.

Loan amount:

Title loans are typically for smaller amounts, often ranging from $100 to $10,000, while personal loans can be for more significant amounts, ranging from $1,000 to $100,000 or more.

What is the most common type of title loan?

The most frequently seen type of title loan is a car title loan. However, some auto title loan lenders also take into consideration on Trucks, Motorcycles, Recreational Vehicles (RVs), and Boats as collateral. Typically, lenders require borrowers to fully own their vehicle to qualify for a title loan.