Types of Auto Loans

According to AAA’s Your Driving Costs study, the average purchase price of a vehicle in the U.S. is $34,876 in 2023—an increase of over $1,500 from 2022. Given the high and rising cost of buying a car, taking out an auto loan to cover the cost is common. Many online lenders, banks, and credit unions offer car loans, and loan types and borrower requirements differ by lender.  

If you’re shopping for an auto loan, it’s important to understand the options so you find a loan that meets your needs. Here’s what to know about auto loan types and variations, as well as how to choose the best loan.  

In this guide:

• 3 variations of auto loans
• The different types of auto loans
• How to choose the best type of auto loan for you
• How to apply for an auto loan
• What types of vehicles can I finance using an auto loan?

3 variations of auto loans

The three common variations of most auto loan offerings are:

• Secured vs. unsecured
• Direct vs. indirect
• Simple vs. computed interest

Knowing how they work can help you compare loan options. 

Secure vs. unsecured

Secured and unsecured loans are the first variation. With a secured loan, your lender requires collateral—or an asset that secures the loan in case you default. In the case of secured auto loans, your vehicle is that asset. Secured loans often come with lower interest rates because the collateral lowers the lender’s risk. 

To protect their collateral, your lender may require you to get comprehensive and collision insurance on your car with a secured loan. 

Most traditional auto loans are secured, but you could also use an unsecured personal loan to buy a car. Lenders don’t require collateral for unsecured loans, but the lack of collateral means you’ll likely get a higher interest rate. 

Secured and unsecured loans offer benefits and drawbacks, and as with any loan, paying late or missing payments could harm your credit.

	Pros	Cons	Best for
🔐 Secured (traditional auto loan)	Lower rates Widely available Range of repayment terms	Lender can seize your car if you miss payments	Borrowers seeking a straightforward auto loan at a lower rate
🔓 Unsecured (personal loan)	Widely available Range of repayment terms Could help you avoid repossession if you miss payments	Higher rates Might require good or excellent credit	Borrowers with strong credit seeking more flexibility

Direct vs. indirect financing

Direct and indirect financing are also options when applying for an auto loan. With direct financing, you apply for a loan with a bank, credit union, or online lender. 

Indirect financing works differently: Instead of applying with a lender, you apply at the dealership when you find the car you want. 

With direct financing, you have more control over which lenders you choose to work with than with indirect financing. Most dealerships offer loans from a smaller selection of lenders. 

	Pros	Cons	Best for
🏦 Direct (via bank, credit union, or online lender)	May have lower rates than indirect financing Freedom to compare loans from whichever lenders you choose Can use loans for private purchases	Comparing options can be time-consuming May require good or excellent credit	Borrowers interested in flexibility and control over their financing options
🚘 Indirect (via car dealership)	Convenient to apply at the time of vehicle purchase Requires less research   Lower credit scores may be accepted	May have higher rates than direct financing More limited loan selection Can’t use  for private purchases	Borrowers seeking convenient, time-saving financing

What our expert recommends

Erin Kinkade

CFP®

If the borrower has the time to do their research and has good to excellent credit, I strongly suggest going with a direct loan. However, if it is an emergency and the borrower does not have time or the credit required for a direct loan, the indirect loan may be their best option. Ultimately, it depends on the borrower’s circumstances.

Simple vs. computed interest

The third auto loan variation is simple vs. computed interest. With a simple-interest loan, the total interest you pay each month is based on your outstanding loan balance. If you make payments early or put more toward the principal each month, you’ll pay less in interest over time. 

With a computed-interest loan, the lender calculates the total interest you’ll pay over your loan term and divides it by the number of months in your term. You’ll pay the same amount of interest each month, regardless of your loan balance. 

Simple-interest loans are more common than computed-interest loans. Many lenders offer simple interest loans, but you’re more likely to find a computed-interest loan at a “buy here, pay here” lot specializing in car loans for bad credit. 

	Pros	Cons	Best for
➕ Simple interest (most common)	Interest costs tend to be lower Lower rates (in most cases) Many lenders offer simple-interest loans	May required good or excellent credit	Borrowers who want to pay less interest
⌨️ Computed interest (often at buy here, pay here dealers)	May accept lower credit scores	Rates and interest costs may be higher	Borrowers with poor credit and few options

The different types of auto loans

In addition to car loan structures, the types of auto loans differ. Here’s a look at auto loan categories and how each loan type is structured. Auto loans, no matter the type, almost always require monthly payments to your lender. 

Click the loan type in the table below to read more about it.

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Tip

Loan structures differ by lender, so it’s essential to understand how a lender structures its loans before you apply.

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	Secured or unsecured?	Direct or indirect?	Simple or computed interest?
New	Generally secured 🔐	Both 🏦🚘	Generally simple ➕
Used	Generally secured 🔐	Both 🏦🚘	Generally simple ➕
Auto refinance	Generally secured 🔐	Direct 🏦	Generally simple ➕
Cash-out refinance	Generally secured 🔐	Direct 🏦	Generally simple ➕
Private party	Generally secured 🔐	Direct 🏦	Generally simple ➕
Lease buyout	Secured 🔐	Both 🏦🚘	Generally simple ➕
Bad credit	Secured 🔐	Generally indirect 🚘	Generally computed ⌨️
First-time car buyer	Generally secured 🔐	Both 🏦🚘	Generally simple ➕
Title	Secured 🔐	Direct 🏦	Generally simple ➕
Military	Generally secured 🔐	Both 🏦🚘	Generally simple ➕
Business fleet	Generally secured 🔐	Both 🏦🚘	Generally simple ➕
Classic car	Generally secured 🔐	Direct 🏦	Generally simple ➕

New car

You can use a traditional auto loan to finance a new car purchase. These loans are often secured by your car. New car loans often come with lower rates than used car loans. Repayment terms differ by lender but can go up to 84 months. 

Used car

You can also use a traditional auto loan to finance a used car purchase. Similar to new car loans, most used car loans require your vehicle as collateral. These loans may come with higher rates than new car loans. 

Auto refinance

When you refinance, you replace your auto loan with a new one. Common reasons for an auto refinance include getting a lower rate and extending your loan term to reduce your monthly payment. 

Cash-out refinance

A cash-out refinance involves replacing your current car loan with a new, larger loan and using the difference for other purposes, such as paying off a higher-interest debt or paying for an unexpected expense.

Private party

Many people head to the dealership to buy a car, but some decide to purchase one from a private seller instead. In this case, a private-party auto loan may suffice. These are similar to traditional auto loans where you apply with a lender and await approval. 

Lease buyout

If you’re leasing a car but decide you want to keep it when your lease expires, a lease buyout auto loan may be what you need. This type of loan can help you buy your leased vehicle at the predetermined price in your lease agreement. 

Bad credit

Some lenders and dealers offer bad-credit auto loans. These loans may have more flexible credit score requirements than traditional auto loans, but they generally come with higher rates. Most lenders consider borrowers with poor credit a higher risk, so they compensate for this risk by offering high interest rates. 

First-time car buyer

Dealerships and lenders may also have first-time car buyer programs for young drivers purchasing their first vehicle. These programs are designed to provide financing to borrowers with a thin—aka little to no—credit history. You may be able to find certain first-time car buyer programs offering competitive rates, but your interest rate through a program like this might be higher than a traditional auto loan. 

Title

Car title loans, or title loans, are high-cost, short-term loans. These loans use your car’s title as collateral, and you don’t get it back until you’ve repaid your loan and any lender fees in full. Fees on a title loan are often exorbitant—up to 25% of the total borrowed. Like payday loans, you should only consider car title loans as a last resort in a financial emergency. 

Military

Certain lenders—such as Navy Federal Credit Union—offer exclusive auto loans for military members. These loans tend to come with lower rates, longer-than-average repayment terms, and flexible qualification requirements. You’ll need to provide proof of military service when you apply for a military auto loan. 

Business fleet

If you need a vehicle for business purposes, you’ll likely need a commercial auto loan instead of a traditional consumer auto loan. Many lenders offer commercial auto loans you can qualify for by proving you’ve been in business for a certain time frame and providing copies of documentation such as your business tax returns.  

Classic car

Lenders often have age restrictions for financed vehicles. For instance, some may require that your car’s model year is fewer than 10 years ago. So you might need specialty financing to purchase a classic car. Classic car loans exist, but they’re harder to come by than traditional auto loans. Some classic car loans come with longer-than-average repayment terms. For instance, Digital Federal Credit Union (DCU) offers an 84-month classic car loan. (You may need an appraisal to qualify.) 

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Have less-than-perfect credit? Here’s our expert’s advice

Erin Kinkade

CFP®

First, start with a private-party loan. If the private-party loan doesn’t work out, try a first-time car buyer loan (or a military loan if it’s applicable). If you can’t qualify for the previous two options, it might be time to consider a bad-credit auto loan.

How to choose the best type of auto loan for you

To choose the best type of auto loan for you, consider your credit, financial circumstances, the car you plan to purchase, and your preferences. 

Here are hypothetical scenarios where one type of auto loan might make more sense than another: 

Borrower	Alice	Brian	Carlos
Credit profile	Good (700 FICO score)	Excellent (810 FICO score)	Thin (new driver working to build credit)
Priority	Convenience	Lowest possible rate	Qualifying for a traditional auto loan
Best option	Secured, indirect auto loan from the dealership	Secured, direct auto loan from a bank or credit union	First-time car buyer loan

See our resource on using a personal loan versus an auto loan to buy a car.

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Expert advice for first-time car buyers

Erin Kinkade

CFP®

I suggest first-time car buyers take their time to research the best loan for them, taking into account their credit history, report, and score, and to shop at least three different lending options before deciding on which loan option fits in with their overall financial condition. Most important: Do not purchase a vehicle that leaves your budget with little to no discretionary income or impedes your ability to establish and maintain an emergency savings account or prevents you from saving for retirement

How to apply for an auto loan

The process of applying for an auto loan can vary depending on your lender and loan type. Many lenders let you prequalify for a loan online, which can provide insight into the total loan and rate you might get. Prequalifying is an excellent first step in the process. 

After comparing potential options, move forward with a full application with your chosen lender. Many lenders let you apply for auto loans online, in addition to prequalifying. You’ll generally need to provide your personal information as part of the process, including:

• Name
• Birthdate
• Address
• Email
• Social Security number
• A copy of your driver’s license to verify your identity

Your lender will likely request financial information, such as recent pay stubs or W-2s, bank statements, and past tax returns. Most lenders also run a hard credit check and review your credit history as part of the loan decision process. 

Should you get prequalified or preapproved? 

Prequalifying and getting preapproved for an auto loan offer insight into how much you could borrow for a new or used car. But one is typically more involved than the other. 

When you prequalify for an auto loan, your lender will do a basic assessment of your finances to estimate how much you can afford to borrow. The amount you prequalify for isn’t necessarily the amount you can qualify for. Your lender will likely do a soft credit check—which has no impact on your credit score—as part of the prequalification process.

The preapproval process for auto loans often involves a deeper look at your finances. You may need to verify your assets and income with bank statements, tax returns, and more, and your lender may do a hard credit check, which can cause your credit score to drop by a few points. 

Once you’re preapproved, you’ll generally get a letter indicating how much you might qualify for and a potential rate. Having a preapproval letter in hand when you head to the dealership to buy a car could help you negotiate on financing. 

What documentation is needed to apply for an auto loan?

Your lender will request your personal information when you apply for an auto loan, including your name, address, phone number, email, and Social Security number. You might also need the following documentation, but requirements differ by lender and type of sale. 

• W-2s
• Bank statements
• Past tax returns
• Driver’s license
• Proof of insurance
• Utility bill or other statement as proof of residence
• Bill of sale or purchase agreement 
• Current vehicle registration

What types of vehicles can I finance using an auto loan?

With most traditional auto loans, you can finance a new or used car, truck, or van for personal use. It’s possible to finance other types of vehicles, but you’ll likely need a specialty loan. 

Lenders offer different types of specialty loans, such as: 

• Motorcycle loan
• RV loan
• Snowmobile loan
• ATV loan
• RV loan
• Scooter/moped loan
• Jet ski loan
• Mobile home loan
• Boat loan

If you’d like to finance a nontraditional vehicle, such as a food truck, you may need an equipment loan, a business loan, or a commercial vehicle loan.