Should You Take Out a Loan?
If you have the cash for your vehicle on hand, you may be wondering if you should buy it outright or take out a loan. Paying cash for a vehicle ensures you spend only what you have on hand, but keeping your cash means you can direct it toward other goals. Consider these other pros and cons.
Pros of Paying with Cash
- You own the car free and clear. When you don’t take out a loan, you don’t accrue debt.
- You own the title, making it easier to sell or trade the vehicle in the future.
- You pay only the price of the car—no interest or loan fees.
- You can use the car as collateral for taking out other loans.
Cons of Paying with Cash
- Your money is now tied up in a car. When you finance a vehicle, you use the lender’s money to pay for your car upfront, so you don’t have to come up with the entire purchase amount. This means you could have more money available in savings for emergencies and other unexpected expenses.
- You won’t be able to invest the money, which could earn more than you’re spending in interest on the loan.
- Because cars depreciate, or lose value, over time, you’ll never fully recoup the money that you put into the purchase.
- You don’t build credit. Making on-time car payments with a lender is a good way to bolster your credit score.
Home Equity Loan and Line of Credit
When you take out a home equity loan (HEL) or home equity line of credit (HELOC) to buy a vehicle, you’re using your home’s equity as collateral. Equity refers to the difference between how much your home is worth and how much you still owe on the mortgage. For example, if your home is worth $300,000 and you owe $225,000 on your mortgage, you have $75,000 in equity.
Advantages of Using a HEL or HELOC to Buy a Vehicle
- You can pay only the interest (HELOC only). If you find yourself short on funds, you can opt to pay just the interest on the loan and not the principal loan balance.
- You may be able to take a tax deduction. Interest paid on HELs and HELOCs is tax-deductible for most people. Interest paid on car loans isn't. Consult your tax advisor for details.
- You may have more buying power. Depending on the amount of equity in your home, you may qualify for a larger loan or line of credit amount than with an auto loan.
Disadvantages of Using a HEL or HELOC to Buy a Vehicle
- Your home’s equity decreases. Paying for a car with a HEL or HELOC decreases the amount of equity available in your home. Should you need to sell your home unexpectedly, you’ll need to pay off the loan.
- You may become upside-down on your mortgage if your home’s value decreases. If your home value decreases to the point that you owe more on your mortgage and HEL/HELOC than what you can get on the market, you’d need to have the cash to pay them off should you have to sell your home.
- Your loan payments may fluctuate. HELOCs have adjustable interest rates, which means your loan payments may change from month to month.
- Your home is on the line. Should you fail to pay back the loan, the lender can foreclose on your house.
Another option is to take out a personal expense loan. Personal loans offered through credit unions and banks can be used for a variety of purposes, including purchasing a car.
Advantages of Using a Personal Loan to Buy a Vehicle
- If you take out a loan with your credit union or bank, you can build on your existing relationship and be assured of receiving the same level of customer care.
- Approval for a personal loan is often faster than for an auto loan. This can be helpful if you’re buying a car directly from a seller and quickly need cash to ensure the car doesn't get sold to another buyer.
- You don’t have to put up your home or other assets as collateral to secure the loan.
Disadvantages of Using a Personal Loan to Buy a Vehicle
- Personal loans tend to have higher interest rates since there is no collateral to secure the loan. You may get a more favorable interest rate if your credit is good.
- Most lenders charge a penalty fee for paying off a personal loan early. You’ll either have to pay the fee or make every payment as scheduled.
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