How do title loans work?

If you need cash and you own a car, you might think a car title loan is the answer.

But are title loans a good way to get a quick loan? They might seem appealing because their fast processing times mean you can get money quickly. But you should think twice before taking out a title loan — they can come with high interest rates, which makes them expensive.

A car title loan is similar to a payday loan — it’s a small loan for a short period of time, usually 30 days. In exchange for the loan, you give the lender the title to your car until the loan is paid in full.

Title loans can be appealing because they usually don’t require a credit check, the application process can take as little as 15 to 45 minutes, and you can continue to drive your car. But beware — title loans can mean trouble for borrowers.

  • How do title loans work?
  • Problems with title loans
  • Alternatives to title loans

How do title loans work?

To get a title loan, you need to have equity in your car. Many lenders require that you own the car free and clear, meaning you don’t have a loan outstanding on the car.

How much can you borrow with a title loan?

You can usually borrow 25% to 50% of the value of the car. According to the FTC, the average loan amount is $100 to $5,500, but some lenders allow you to borrow up to $10,000, and even more.

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Once you’re approved for a loan, you’ll give the lender the title to your car. Although you can continue driving your car, some lenders may install a GPS device to track it. Sometimes they also make a copy of your keys. Both of these tactics can help lenders repossess your car if you default on the loan.

Loan terms are typically between 15 and 30 days, but they can be up to a year.

Problems with title loans

While title loans may seem like a good idea when you need a short-term loan, they have serious drawbacks.

Title loans are expensive

Title loans cost a lot — typically coming with interest at an annual percentage rate, or APR, of around 300%. That breaks down to an average 25% in interest charges per month. For example, if you borrow $1,000 with monthly interest (also referred to as a monthly fee) of 25%, you would need to repay $1,250 at the end of 30 days — and that figure doesn’t include any additional fees you’ll probably have to pay.

So these short-term loans are expensive — but the problem gets worse.

Title loans can lead to a cycle of debt

If you’re not able to make the full loan payment at the end of the loan term, the lender may offer to renew or roll over the loan into a new loan. This new loan again adds more fees and interest to the amount you already owe.

Let’s say you borrowed $1,000 with a 25% fee, but at the end of 30 days you could only pay back $250 rather than the full amount of $1,250. If your lender offers you a rollover loan, the $1,000 that you still owe would be rolled into a new loan with additional interest and fees.

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Assuming the same rate, at the end of the next 30 days you’d owe $1,250. If you pay back the loan in full at the end of this loan, you will have paid $500 to borrow $1,000 for 60 days. (And again, this doesn’t include fees you’ll be charged.)

Unfortunately, borrowers on average pay more in interest and fees than the amount they borrow. The average title loan is $1,000, and the average fees paid per customer per year are $1,200, according to a 2015 report from the Pew Charitable Trusts.

With costs piling up each month, borrowers who can’t afford to pay the loan in full could face another challenge.

Your car is at risk of being repossessed

If you’re unable to make your full loan payment at the end of the loan term, you risk losing your car. A study from the Consumer Finance Protection Bureau found that, for people who have to roll over their title loans, one out of every five loans end with the car being repossessed.

Even if you’ve been making partial payments, if you can’t keep up with payments as laid out in your loan agreement, the lender is allowed to repossess your car.

Alternatives to title loans

Title loans may be tempting as a quick way to access cash, but there are other options you should consider to avoid taking out, or rolling over, a car title loan.

  • Request an extension from creditors. If you’re behind on your bills, contact your creditors and ask about an extension. Creditors may be willing to grant an extension for a short period of time if they believe you’re acting in good faith and the situation is temporary.
  • Negotiate your debt. If you need the loan to help pay off mounting credit card debt, contact your credit card companies to see if you can find a solution. In some scenarios, you may be able to negotiate a settlement option.
  • Use your credit card. Rather than taking a loan to pay your bills, a credit card could be a cheaper option. Credit cards tend to have lower interest rates than title loans. And, for most credit cards, if you pay the full balance of what you owe on time each month, you likely won’t have to pay interest.
  • Apply for an unsecured personal loan. Unlike a title loan, unsecured personal loans don’t require collateral, like your car. They also generally come with lower interest rates than title loans.
  • Use your tax refund. If you’ve taken out a title loan and think you might have a tax refund coming, don’t delay filing. In one study by The Pew Charitable Trusts, 21% of borrowers paid off their title loan with a tax refund. The IRS usually issues refunds in 21 days or less. Here are some strategies to avoid going into debt while you’re waiting for that tax refund to arrive.
  • Borrow money from family and friends. Borrowing money from friends and family can be uncomfortable, but it’s worth it to avoid taking out, or rolling over, a title loan. In the Pew study, 19% of borrowers got help from friends and family to pay off their title loans.
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Bottom line

Title loans provide fast access to cash, but they can create serious problems for borrowers. The average borrower will pay more in fees than the amount they borrow, and 20% of borrowers have their cars repossessed for nonpayment. Before getting a car title loan, explore other options that can help you get the money you need.