Generally, when you take out a car loan you use the car being financed as the collateral for the loan, which means that the lender can repossess the car if you default on your loan payments. However, you can also finance a car by using a cash-secured loan, in which case the lender has no claim upon the car.
Cash
In order to take out a cash-secured loan, you must first establish a deposit account such as a certificate of deposit or a savings account. You must deposit a sum of money into the account that matches or exceeds the amount that you intend to borrow to finance your car. The bank places a freeze or hard-hold on the CD or savings account, which means you cannot access any of the money in the account until you have paid off the loan.
Loan
When you take out a CD or savings-secured loan, the lender does not have to check your credit report since your deposit account provides your lender with liquid collateral that cannot lose value over time. However, you must provide your lender with evidence of your income in order to prove that you can afford to repay the loan despite having no access to the funds in the frozen deposit account. Your lender may limit your loan amount to a sum of money just below the balance of your deposit account in order to allow for any late fees that you may incur.
Expense
When you take out a regular car loan you must pay interest on the debt and interest rates on car loans roughly follow the United States prime rate. Interest rates on cash secured loans also follow prime rate so you pay roughly the same rate on either a car loan or an auto secured loan. However, the interest that you earn on the CD securing your cash loan, offsets the interest that you pay on the debt. Therefore, cash-secured loans are less expensive than regular car loans.
Benefits
It may seem nonsensical to pay to borrow money in the form of a cash-secured loan when you have sufficient cash to buy a car. However, many people who have poor credit use cash-secured loans to buy cars because the loans are reported to the credit bureaus. Typically, car loans have term times of between two and six years and assuming that you make your payments on time, you can significantly improve your credit score by taking out one of these loans. When you receive the loan proceeds, the bank makes the check payable to you so in actual fact you can use the money for any purpose and not just for buying a car.
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