What is a Title Loan?

A title loan is a loan that requires an asset as collateral. Title loans are popular for two key reasons: First, an applicant's credit rating is not taken into consideration when determining qualifications for the loan. And second, thanks to looser application requirements, a title loan can be approved very quickly for amounts as low as $100.

How a Title Loan Works

The most common form of a title loan is a car title loan. In this case, a potential borrower is required to own a car outright and sign the title over to an auto loan title company. The loan company will lend up to 25% of the car's total value to the borrower and keep the car's title as collateral in case of default.

Typical car title loan amounts are $1,000, although they can be higher. Borrowers can repay the car title loan with a single payment after one month or repay the loan on a two-year installment plan. If a borrower does not repay the title loan in accordance with the repayment agreement, the car can be repossessed immediately by the auto loan title company. The loan company also has the option of letting a borrower in default make interest-only payments for one-month periods, effectively rolling over the loan amount indefinitely until it's repaid.

[Important: Auto title lenders can charge exorbitant interest on car title loans, making it exceedingly difficult for a borrower to pay back the loan.]

Special Considerations for a Title Loan

Title loans may sound attractive to individuals with bad credit or people in financial straits who need cash fast. However, there are exorbitant costs associated with title loans, especially car title loans, that should give borrowers pause.The annual percentage yield (APR) on an average car title loan can be as high as 300% and is almost always higher than 100% interest. The high APR can cause a financial treadmill where borrowers can never catch up and pay down the loan's principal. For this reason, car title or auto title lenders are sometimes called "predatory lenders" because of they tend to prey on people who need cash in emergency situations.

Examples of How Much Title Loans Can Cost You

Take, for example, a $500 car title loan that is to be repaid within a one-month period and carries an APR of 300%. With these terms, the borrower will have to pay the car title loan company $625 in principal and interest to repay the debt. For individuals who need $500 fast, paying an additional $125 in interest within a one-month period may cause additional financial hardship.

Or consider a $5,000 car title loan that has to be repaid in 24 monthly installments with an APR of 100% or more. In this scenario, a 24-month car title loan with a 108% APR will cost the borrower $7,394 in interest charges on top of the initial $5,000 principal, for a total payoff amount of $12,394.