Starting or expanding a small business often requires significant financial resources.
In most cases, starting a microbusiness will cost you around $3,000. If it’s a home-based small business, you’ll need $2,000 to $5,000 for the same. However, some estimates suggest that even the cheapest of small businesses can have startup costs of around $12,000.
Now, for many entrepreneurs, securing a loan is a critical step toward realizing their business goals. While traditional business loans are common, some business owners may consider using personal assets as collateral to obtain the necessary funds. One such asset is your car.
You can get around 25 percent to 50 percent of the value of your car when using it as collateral. This article explores what you need to know about using your car as collateral for a small business loan
How Do Collateral-Based Loans Actually Work?
When you apply for a loan, lenders often require some form of collateral. This collateral is a valuable asset that they can claim if you fail to repay the loan.
When you use collateral, it reduces the risk on the lender’s end. That, in turn, can make it easier for borrowers like yourself to obtain financing, especially if you don’t qualify for unsecured loans.
Cars, real estate, and equipment are commonly used as collateral in business loans. The rich or upper class also take business loans using collateral. They, however, use things like art collections, handbags, and various luxury items as collateral for the loans.
What are the Benefits of Using Your Car as Collateral?
Typically, you can easily get your loan application approved if you own a valuable asset and use it to back the loan.
Small businesses use this to their advantage, especially if they have less-than-perfect credit scores. Here, the collateral they decide to use can easily offset the perceived risk.
Another major benefit of getting loans for your car is the potential for lower interest rates. Since the lender has a tangible asset to secure the loan, they may offer more favorable terms, such as reduced interest rates.
Using your car as collateral can also provide access to larger loan amounts. Besides, according to Finher, when obtaining a loan for your car, you can continue using the vehicle without restrictions in many cases. That means you don’t have to give up possession or use of your car as you use it as collateral.
What are the Risks Involved When Using Your Car As Collateral?
While there are clear benefits to using your car as collateral, there are also significant risks to consider. The most obvious risk is the potential loss of your vehicle. If your business faces financial difficulties and you cannot make your loan payments, the lender can repossess your car.
Losing your vehicle can be devastating, especially if you rely on it for personal or business-related transportation.
Another risk is the possibility of owing more on the loan than the car is worth. Cars depreciate over time, and your vehicle can lose its value faster than you repay the loan. In such a situation, you could end up in a situation where the remaining loan balance exceeds the car’s value.
This scenario, known as being “upside-down” on a loan, can make it challenging to sell or trade in the vehicle if needed.
Additionally, using your car as collateral ties up a valuable asset that you could otherwise use for other financial purposes. If you later need to secure another loan, you may have limited options if your car is already pledged as collateral.
What’s the Loan Application Process?
If you use your car as collateral, you must understand the loan application process.
The first step is to assess the value of your vehicle. Once you’ve determined the vehicle’s value, you’ll need to gather the necessary documentation. This typically includes the car’s title, proof of ownership, and details about the car’s condition and mileage.
Now comes the next step where you actually have to apply for the loan. Here, you’ll need to submit the required documents for the loan and also complete the lender’s application process.
Upon submitting everything, the lender will go through your application and assess your creditworthiness. They will also take their time to evaluate the car’s value that you’re using as collateral.
If you get your loan approved, you’ll receive the loan amount, and the lender will place a lien on your vehicle.
Using your car as collateral for a business loan can be a valuable way to access the funds for growing or sustaining your business. However, you must carefully weigh the benefits and risks involved with using your car as collateral.
