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What Is A Title Loan & How Does It Work?

August 21, 2024

A car title loan is a type of secured loan in which you use your vehicle’s title as collateral to borrow money. These are short-term, high-interest loans that provide quick access to cash, no matter your credit score. While title loans may seem like a fast solution, they can be expensive and difficult to pay back.

Here’s what you need to know about car title loans before getting one and some alternatives to consider.

What is a Car Title Loan?

A car title loan, auto title loan, or ‘pink slip loan’  is a type of short-term loan where you use your vehicle’s title as collateral to secure the loan. The lender temporarily holds the title in exchange for cash. While ‘car’ is in the name, these loans can also be used for trucks, motorcycles, recreational vehicles, or even boats. 

The main advantages of car title loans are that there is no hard credit check, you get a lump sum of cash right away, and you can still use your vehicle while repaying the money. This is a big plus if you have poor credit or no credit history.

The catch with car title loans is that if you fail to repay the money on time, the lender has the legal right to repossess your vehicle. These loans look good when you need quick cash, but they aren’t without risk.

How Do Title Loans Work?

Title loans allow you to access a lump sum of cash simply by using your vehicle’s title as collateral. Since they require collateral, they are easier to be approved for and have few requirements. Lenders typically ask for the following:

  • Vehicle for inspection
  • A clear title
  • A photo ID
  • Proof of insurance

Most lenders will not do a credit check or ask for proof of income. You do need to own your vehicle outright. This means you’ve paid off your auto loan and do not have liens on your vehicle’s title.

When you apply for a loan, the lender assesses the vehicle’s value and offers a loan amount based on a percentage of that value. Once the loan is approved, you receive the funds and the lender holds onto the title until the loan is repaid in full. The lender may ask for an extra set of keys or install a GPS in the car to make it easier to repossess if you default.

The repayment period is typically 15 to 30 days, though some lenders offer longer repayment terms. At the end of your loan period, you must repay the total amount borrowed plus any interest and fees, like with payday loans.

If you cannot repay the loan within the agreed timeframe, the lender may repossess the vehicle and sell it to recover the loan amount. The short repayment period and the chance of repossession make title loans a high-risk option.

What’s the Cost?

The cost of a title loan can be steep, often far exceeding that of traditional personal loans. However, they are still less expensive than payday loans. Most lenders charge a financing fee of 25%. This fee includes both the interest charged and any additional fees like processing, documentation, and loan origination fees. 

Let’s look at an example to better understand the cost. Say you take out a $1,500 title loan with a 25% financing fee and a 30-day repayment period. The financing fee is $375, equivalent to a 300% APR. At the end of the 30-day period, you must pay $1,875, roll over the loan with additional charges, or have your vehicle repossessed.

The high costs of car title loans are why many states don’t allow them, and those that do heavily regulate them. Check with your state to see if car title loans are a viable option for you.

How Much Can You Borrow?

The amount you can borrow depends on the value of your vehicle and the lender’s policies. Generally, title loans range from 25% to 50% of the vehicle’s appraised value, with loan amounts typically between $100 and $10,000. 

Some lenders may offer more, especially if the vehicle is newer or of higher value. However, the exact amount can vary widely depending on the vehicle’s condition and the lender’s risk tolerance.

Do Title Loans Hurt Your Credit?

Title loans generally do not impact your credit score in any way. This is because most title lenders do not conduct a hard credit check when you apply nor do they report to the major credit bureaus. This means that your timely payments won’t help improve your credit, and defaults or late payments will likely not appear on your credit report either. 

If you default, the lender will repossess your vehicle and sell it. There’s no reason for them to sell your debt to a collection agency or report the delinquency to the credit bureaus. However, the potential consequences of a title loan can indirectly affect your credit in significant ways. 

If you default on a title loan, the lender can repossess your vehicle, leaving you without reliable transportation, making it difficult to get to work or manage other financial obligations. This can lead to missed payments on other debts or bills, ultimately harming your credit score. Additionally, if the lender sells your vehicle for less than the loan balance, you might still be responsible for the remaining debt, which could be sent to collections and negatively impact your credit.

Pros and Cons of Car Title Loans

Pros:

  • Quick access to cash: Car title loans provide fast access to funds, often within 24 hours. This is particularly helpful in emergencies when you need cash immediately to cover unexpected expenses or financial shortfalls.
  • No credit check: Lenders offering car title loans typically do not require a credit check, making these loans accessible to individuals with poor or no credit history. This can be a viable option if you’ve been turned down for other types of loans due to your credit score.
  • Continued vehicle use: Even though your vehicle is used as collateral, you can continue to use it during the loan period. This ensures that you still have transportation for work, errands, and other daily activities while repaying the loan.
  • Simple application process: The application process for a car title loan is straightforward and involves minimal paperwork. Approval is generally fast, and the requirements are typically limited to proof of ownership, identification, and vehicle details.

Cons:

  • High interest rates: Car title loans often have significantly higher interest rates than traditional personal loans. The cost of borrowing can quickly add up, making these loans an expensive option, especially if you’re unable to repay the loan promptly.
  • Short repayment terms: The repayment period for car title loans is usually very short, typically between 15 and 30 days. This short term can make it challenging to repay the loan on time, potentially leading to additional fees or the need to roll over the loan.
  • Risk of repossession: If you fail to repay the loan as agreed, the lender has the legal right to repossess your vehicle. Losing your car can have severe consequences, particularly if you rely on it for commuting to work or fulfilling other essential needs.
  • Potential debt cycle: The high costs and short repayment terms of car title loans can lead to a cycle of debt. If you’re unable to repay the loan on time, you might be forced to take out additional loans to cover the original debt, leading to a downward spiral of increasing debt.
  • No credit score benefit: Payments on a car title loan are not reported to credit bureaus, so timely repayment won’t help improve your credit score. However, defaulting on the loan could indirectly affect your credit if it leads to further financial difficulties.

Alternatives to Title Loans

Payday Alternative Loans

Payday alternative loans (PALs) are small, short-term loans offered by certain federal credit unions as a safer alternative to payday or title loans. They are for smaller amounts – $200 to $2,000 – and have friendlier repayment terms. The application fee is capped at $20 and interest rates cannot exceed 28%, making them more affordable. Most PALs are payable over one to 12 months.

PALs are designed to help borrowers with poor credit avoid the high costs and risks associated with other short-term loans. To qualify, you usually need to be a member of the credit union for at least a month. PALs are a good option for those who need quick access to cash but want to avoid the financial strain of high-interest loans.

Paycheck Advances

A paycheck advance or a payroll advance, allows you to borrow money against your upcoming paycheck. This option can be a quick way to access funds with few fees, no interest, and no credit check. 

You can take out a paycheck advance directly from your employer or through a cash advance app. Either way, there are typically few to no fees. If you choose an app, there may be an optional tip, a small funding fee, or a subscription charge. The funds will be deposited directly in your bank account anywhere from the same day to three business days. Funds are automatically withdrawn from your next paycheck.

While paycheck advances can be helpful in emergencies, it’s essential to use them sparingly to avoid falling into a cycle of dependency on early access to your earnings.

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Personal Loans

Personal loans from banks, credit unions, or online lenders are possible to secure even with poor credit. These loans have lower interest rates – no more than 36% – and longer repayment terms of two to seven years. They are unsecured, meaning you don’t have to use your vehicle as collateral, reducing the risk of losing your car. 

Personal loans often require a credit check, but not all lenders place much emphasis on your credit score. Plenty of online lenders offer loans to borrowers with less-than-perfect credit. Credit unions and local banks may be willing to work with you based on an existing relationship and good banking history, regardless of your credit score.

Alternatively, you may be able to get a secured loan from a bank or credit union using your car as collateral. This loan will have a lower interest rate and longer repayment term than a car title loan. If you don’t want a secured loan, try applying with a co-signer who has good credit to strengthen your approval odds.

Credit Cards

Using a credit card can acutally be less costly, especially if you have a card with a low interest rate or a promotional 0% APR. Credit cards allow you to borrow up to your credit limit, and if you repay your balance monthly, you won’t be charged any interest. 

Carrying a balance will result in interest charges but at a significantly lower rate – up to 36% compared to 300% APR of title loans.

Credit Card Cash Advance

A cash advance from a credit card is another option for quick cash. Most issuers let you withdraw cash from a teller or ATM up to a specific limit. There’s no application and no credit check.

The problem with cash advances is that they come with upfront fees, higher interest rates, and no grace period. You will be charged interest on the amount you advance immediately.

While credit card cash advances can be costly, and the fees add up fast, they can still be less expensive than title loans if paid back promptly.

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Friends and Family

Borrowing from friends or family can be the cheapest way to access cash and avoid debt. They are unlikely to impose harsh interest rates, charge excessive fees, or require short repayment periods. 

Draw up a loan agreement to avoid straining your relationship. Be clear about the repayment terms and set a timeline for repaying the loan.

Assistance Programs

Consider seeking help from local or government assistance programs before resorting to a loan. Programs like utility assistance, food banks, or rental assistance can temporarily relieve the need for high-interest loans. 

Nonprofit organizations and charities often offer emergency financial assistance or low-interest loans to those in need. Additionally, many states have community action agencies that can help with essential bills or connect you with resources to improve your financial situation. Call 211 to find programs where you live.

Bottom line

Title loans can offer a quick solution for those in urgent need of cash, but they come with significant risks that can lead to a cycle of debt. The high interest rates, short repayment terms, and potential loss of your vehicle make title loans a costly option that should be carefully considered. While they might seem convenient, the long-term financial consequences can be severe.

Before taking out a title loan, it’s important to explore safer alternatives that may better suit your financial needs. Payday alternative loans, personal loans, cash advances, and even borrowing from friends or family can provide the funds you need at a lower cost.

Ultimately, the best approach is to carefully evaluate your options, consider the potential impact on your financial stability, and choose the solution that offers the most favorable terms with the least risk.

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About the author

Rachel Alulis

Rachel Alulis has been the lead editor for Moneyfor’s credit cards team since 2015 and for the financial rewards team since 2023. Before joining Moneyfor, Rachel worked at USA Today and the Des Moines Register. She then established a successful freelance writing and editing business specializing in personal finance. Rachel holds a bachelor’s degree in journalism and an MBA.

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