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Personal loan vs car loan: which option is suitable for you?

Mark Bristow avatar
Mark Bristow
- 6 min read
Personal loan vs car loan: which option is suitable for you?

Most lenders offer both car loans and personal loans – what’s the difference? And which one is the best choice when you’re buying a car?

The difference between a car loan and a personal loan

A car loan is simply a personal loan that’s used to buy a new or used car. Essentially, not every personal loan is a car loan, but every car loan is a personal loan.

A personal loan is a lump sum borrowed from a bank or lender for a purpose of your choice, such as renovating a home, or paying for a wedding. You receive a lump sum from the bank or lender, and must repay the loan amount, and interest charges, in regular instalments. 

Most personal loans are for a fixed term of up to five years, and you may have to pay an early termination fee if you wish to close the loan sooner. You can take out a personal loan with a fixed or variable interest rate

Personal loans can be secured or unsecured. If you choose a secured loan, you need to use an asset as collateral, such as equity in a house or cash saved in a term deposit, which the lender can seize if you fail to repay the loan. A car loan is often a secured loan, where the loan is secured against the vehicle you purchase.

Secured car loans often offer more competitive interest rates because of the reduced risk to the lender. Alternatively, you could go for an unsecured loan without collateral, but as this is a higher risk for the lender, they will generally charge you more interest. 

Secured car loan pros and cons

Benefits

  • May have lower interest rates than unsecured personal loans
  • Fixed rates let you easily calculate costs in advance
  • Lower risk may mean a higher maximum borrowing amount

Drawbacks

  • May only be able to buy new cars, or specific vehicle types
  • Could lose your car if you default
  • May have less repayment flexibility

Can I use a car loan as a personal loan?

You cannot use a secured car loan for any purposes outside of purchasing a vehicle. The lender will require details of the vehicle being purchased, such as its make, model and chassis number, before it will approve the loan application.

You may be able to use a personal loan to purchase a car, as a car loan is technically a type of personal loan. Unsecured personal loans often have fewer restrictions than secured car loans, though you may still need to provide some details of the car you’re buying to the lender.

It’s not always possible to extend a car loan to borrow extra money, as the value of the car you’re buying may not be enough to secure a larger loan. That said, a few lenders may allow you to use your car loan to help pay for some of the extra upfront costs of buying a car, like stamp duty, insurance and registration.

Unsecured personal loan pros and cons

Benefits

  • May be able to buy new or used cars
  • No risk of losing car if you default
  • May offer improved flexibility around borrowing and repayments

Drawbacks

  • May have higher interest rates
  • Rates, terms and conditions may rely more heavily on borrower’s income and credit score
  • Lender can take you to court if you default on repayments

Comparing car loan vs personal loan interest rates

When you’re trying to decide between using a personal loan or a car loan to purchase a car, one of the key considerations may be the interest rate. Consider comparing the interest rates available from different lenders to find some of the most competitive car loans or personal loans.

Secured car loans - and secured personal loans - tend to have lower interest rates than unsecured loans due to the lower level of risk for the lender.

Remember that the interest rate that is advertised may not always be the interest rate you are offered when you apply for a car loan or a personal loan. Your credit score can affect the interest rate you may be offered for a personal loan or a car loan. If you have an excellent credit score, you may be offered a more competitive interest rate. 

So, should I get a car loan or a personal loan?

Both car loans and personal loans can be useful for buying a car, depending on what you’re looking for. A car loan or a personal loan will affect your overall financial situation, so make sure to do your research and compare interest rates. The best choice for you will depend on your requirements. 

Secured car loans often have lower interest rates, which could help make their repayment more affordable, However, secured car loans may also restrict the types of cars they can be used to purchase, such as only new cars of particular makes or models. Cars are depreciating assets, and the lender will want to be confident it will hold enough value to secure the loan. So, while you may be able to get a secured car loan with a lower interest rate, you may need to use one to buy a newer vehicle model, which may have a higher price tag.

On the other hand, you may be able to use an unsecured car loan (essentially just a personal loan) to buy almost any make or model of car, new or used. While used cars like this are often cheaper, you may be paying a higher interest rate for an unsecured personal loan or car loan. There may still be a maximum age limit on the car you purchase, as the lender will still want to be confident it won’t break down and be written off during the loan term. 

The best choice for you may depend on your financial situation and what you need from a car. Consider making some calculations to determine which option may best suit your budget and offer you the most value for your money.

As well as car loans and personal loans, some alternative vehicle finance options include a chattel mortgage, a novated lease, or a hire purchase, which could be useful if you plan to use your car for work.

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Product database updated 30 May, 2024

This article was reviewed by Personal Finance Editor Alex Ritchie before it was published as part of RateCity's Fact Check process.