What Is a Title Loan?
A title loan is a loan that requires an asset as collateral. Title loans are popular for two key reasons. First, an applicant’s credit rating is not taken into consideration when determining qualifications for the loan. And second, thanks to looser application requirements, a title loan can be approved very quickly for amounts as low as $100.
- A loan that requires an asset as collateral is known as a title loan.
- Title loans are popular because they do not take into consideration an applicant’s credit rating and because they can be approved very quickly.
- The most common type of title loan is a car title loan, where the car itself is the asset put up as collateral.
- Title loans are usually taken on by individuals needing cash fast or those in financial difficulties.
- The costs of title loans are exorbitant and they are considered a bad financing option.
How a Title Loan Works
The most common form of a title loan is a car title loan. In this case, a potential borrower is required to own a car outright and sign the title over to an auto loan title company. The loan company will lend up to 25% of the car’s total value to the borrower and keep the car’s title as collateral in case of default.
Typical car title loan amounts are $1,000, although they can be higher. The usual length of the loan is 15 to 30 days but can be longer. Borrowers can repay the car title loan with a single payment, typically after one month, or repay the loan on a multi-year installment plan. If a borrower does not repay the title loan in accordance with the repayment agreement, the car can be repossessed immediately by the auto loan title company. The loan company also has the option of letting a borrower in default make interest-only payments for one-month periods, effectively rolling over the loan amount indefinitely until it’s repaid.
Title loans may sound attractive to individuals with bad credit or people in financial difficulty who need cash fast. However, there are exorbitant costs associated with title loans, especially car title loans, that should give borrowers pause.
The annual percentage rate (APR) on an average car title loan can be as high as 300% and is almost always higher than 100% interest. The high APR can cause a financial treadmill where borrowers can never catch up and pay down the loan’s principal. For this reason, car title or auto title lenders are sometimes called “predatory lenders” because they tend to prey on people who need cash in emergency situations.
Example of a Title Loan
Take, for example, a $500 car title loan that is to be repaid within a one-month period and carries an APR of 240%. That comes out to a monthly rate of 20%. With these terms, the borrower will have to pay the car title loan company $600 in principal and interest to repay the debt. For individuals who need $500 fast, paying an additional $100 in interest within a one-month period may cause additional financial hardship.
Or consider a $5,000 car title loan that has to be repaid in 24 monthly installments with an APR of 108%. In this scenario, a 24-month car title loan, with monthly compounding, will cost the borrower $7,362.71 in interest charges on top of the initial $5,000 principal, for a total payoff amount of $12,362.71. And this doesn’t include fees.
Other Options to Title Loans
Though title loans may be a tempting option when going through financial difficulties, they often put a person in a worse financial situation than they were in before, due to the high interest rates and fees. The financial world is broad and there are many better alternatives to title loans.
Some other options include credit cards, though they have high interest rates, they are not as high as those for title loans. Before taking on further debt, however, an individual can renegotiate their current debt with their bank or credit card companies. They can also often ask for an extension on their debts from their creditors, and they might be willing to comply in the short term. Taking out an unsecured personal loan is preferential to a secured loan where one has to put up collateral. Though unsecured loans have higher interest rates when compared to secured loans due to the increased risk for the lender, personal loans provide better rates than those offered for title loans.
When considering an unsecured loan, it’s worth using a personal financial calculator to see just how an interest rate will affect the total interest paid by the end of the loan.
View more information: https://www.investopedia.com/terms/t/titleloan.asp