If you’re looking to buy a car, the most traditional route is an auto loan, but it’s also possible to finance your vehicle using a home equity loan. To determine if using a home equity loan to buy a car is the best option for you, you need to know how to use a home equity loan for car purchases and when a home equity loan might be a better solution than a standard auto loan. The terms of these two loans are vastly different, so it’s not as simple as choosing the loan with the lower rate.
Can you use home equity for anything you want?
There are typically very few limits on how you can use a home equity loan. Many people use home equity for debt consolidation, home improvements or emergency expenses, but those are not the only uses. Some lenders may impose restrictions — for instance, some will not let you use the funds to pay for college tuition — but in general, home equity loans can be used for any legal purpose.
How to use a home equity loan to buy a car
Taking out a home equity loan to buy a car is a fairly simple process. You can contact a lender in person, by phone or through the lender’s website to find out about the approval process. You’ll need to have enough equity in your home — meaning that your house needs to be worth more than the amount left on your mortgage — and the process usually involves a credit check, home appraisal, loan application fee and supporting documentation. Once the required documents have been submitted and you are approved, you can usually expect to receive funding in less than two weeks.
Home equity loans vs. auto loans
The biggest difference between home equity loans and auto loans is that while a traditional car loan is secured by the car you purchase, a home equity loan is secured by your home. The interest rates are generally different, as are the payment terms. Typically, home equity loans have longer repayment terms and lower interest rates than auto loans, meaning your monthly payment will be lower. However, a longer repayment period will mean that you pay more in interest overall, and you may not want to be stuck with an auto loan for 10 or 20 years, especially if you switch cars often.
Advantages of using a home equity loan to buy a car
A home equity loan may be the best way to buy a car in a few scenarios. Here are some of the biggest benefits of home equity loans.
Most car loans are for a set duration of three to seven years, but a home equity loan typically gives you a longer period to repay, generally between 10 and 15 years. With a home equity loan, you can also typically pay off the loan early, which is not the case with many auto loans.
Lower interest payments
Home equity loans typically have lower interest rates than auto loans, which could help if your budget is tight. If you have good credit, you may be able to find home equity loans with rates as low as 3 percent.
Disadvantages of using a home equity loan to buy a car
Home equity loans also come with a set of drawbacks.
Longer repayment terms
The longer repayment timeline of a home equity loan will lower your monthly payments, but the loan could also outlive your car. This could result in you still paying your home equity loan for the old vehicle while financing a new vehicle.
Decreased home equity
Using your home equity to finance a car decreases the total amount of equity you have available in your home, which could be a problem if you need to sell your home before you’ve paid the loan back. That could cause you to become upside down on your mortgage if your home value decreases to the point that you owe more on your mortgage and the home equity loan than your house is worth.
The bottom line
It is possible to use your home equity to take out a loan for a car, and you may get a better interest rate on your loan by taking that route. Before you move forward, though, consider the risks of using your home as collateral and the drawbacks of choosing a longer loan. You may not want to carry debt any debt longer than you have to, especially for a car.