Like many recent grads, I finished college with lofty goals, plenty of drive, and a five-figure student loan balance.
I wondered whether refinancing could trim my interest costs, so I started investigating my options.
At first, I reached out to several companies that specialize in refinancing student debt. Their offers only improved my rate by roughly one percentage point compared with my federal loans, and I wasn’t convinced the modest savings outweighed giving up the flexibility of federal loans — such as the ability to pause payments or alter repayment plans. That led me to explore alternative refinancing approaches.
During a free “Credit Scores 101” talk at my credit union, I discovered another refinancing possibility that could meaningfully lower my student loan interest — tapping into my car.
Here’s what I learned.
What Is a Car Equity Loan?
There are two common types of auto loans. The first, which most people know, is taking out financing to purchase a vehicle.
The second, which is the focus here, applies when you already own a vehicle with positive equity — meaning the car’s market value exceeds what you still owe on it. In that situation, you can borrow up to the amount of that equity.
For instance, if your car is worth $10,000 and you still owe $4,000 on it, you have $6,000 in positive equity. You could therefore take a car equity loan for as much as $6,000.
The borrowed funds can be used for any purpose, including consolidating or paying off student loans — effectively shifting higher-rate debt into lower-rate debt.
The Advantages of Car Equity Loans
Now for the part you probably care about: what are the perks of this tactic?
Car equity loans can carry substantially lower interest than student loans, particularly if your credit is strong. Someone with solid credit could secure a car equity loan in the 3–5% range, according to Karen Bauer, Executive Vice President of 360 Federal Credit Union in Connecticut, where I obtained my loan.
I was approved for a $20,000 car equity loan at a 2.49% interest rate, based on my 2015 Chrysler’s appraised worth and my favorable credit profile, to refinance student loan balances. That rate is much lower than the 6.5% on my federal loan, and refinancing this way will save me over $5,000 in interest.
I’ll also clear the car equity loan in six years — three years sooner than the timeline for my federal student loan.
For me, the $5,000-plus in savings and the shorter repayment window justified losing some federal loan protections, which I’ll outline below.
Your mileage will vary depending on factors like your credit score and your vehicle’s valuation. Higher credit scores typically yield lower interest rates. Your monthly payment will be driven by your lender’s terms and the rate you receive; for example, my credit union offered repayment up to six years.
The Drawbacks of Car Equity Loans
That said, using a car equity loan carries risks.
Financial institutions price loans according to perceived risk, Bauer explained. Unsecured loans, such as many student loans, don’t have collateral and are therefore seen as riskier, which often results in higher rates.
Car equity loans usually have lower rates because the vehicle serves as collateral. That means if you fail to repay, the lender can repossess your car.
Refinancing a federal student loan also removes the protections and flexibility that government loans provide, like eligibility for certain forgiveness programs and income-driven repayment plans that calculate monthly payments based on factors like income and family size. Federal loans may also allow deferment or forbearance in qualifying situations. If you convert that debt into a car-backed loan, those federal options typically vanish — and you likely won’t be able to suspend car loan payments for long.
Another point to consider: if the vehicle’s value declines faster than you reduce the loan balance, you could find yourself underwater on the car.
Finally, if the repayment term on the car equity loan is shorter than on your student loan, your monthly payment may rise. For example, I now pay about $315 monthly on the car equity loan versus the $260 I paid on the student loan before refinancing.
Is Using a Car Equity Loan to Refinance Right for You?
Whether this strategy suits you hinges on your personal situation.
First, I recommend comparing your credit score toExperian’s benchmarks. Different lenders use various scoring models and categorizations, but Experian’s guide labels FICO scores of 800–850 as exceptional, 740–799 very good, 670–739 good, 580–669 fair, and 300–579 very poor.
A higher score will likely improve your odds of landing a low-rate car equity loan. If your credit is on the lower side, you may not receive a rate that makes borrowing against your car preferable to keeping federal student loans.
Second, only consider this strategy if your car equity is large enough to meaningfully reduce your student loan balance. Do you own the vehicle outright or have a very small remaining loan balance? Did you receive a car from family? If so, you may have substantial equity to leverage.
If you’re uncertain, ask your bank or credit union how they’d appraise your car. Bauer said 360 Federal Credit Union used National Automobile Dealer Association (NADA) data to value my 2015 Chrysler. I checked the Kelley Blue Book, which showed a similar valuation.
Lastly, make sure you can stick to the payment schedule and be disciplined about repayments.
Additional Tips for Securing a Car Equity Loan
Only apply with reputable lenders like established banks or credit unions. Avoid predatory lenders or sketchy outfits that may use misleading marketing and charge excessive fees.
Compare offers from multiple banks or credit unions to find the best rate and terms.
Bauer also advised watching out for hidden costs and prepayment penalties. She recommended getting guaranteed asset protection (GAP) coverage, which helps cover the gap between what you owe and what the car is worth if the vehicle is totaled or stolen.
Your Turn: Have you tapped car equity to refinance student loans? Share your experience!
Marco Rivera, J.D., M.B.A., is a legal and business professional in the aerospace and defense sector with strong experience in compliance, auditing, negotiations and contracts. He volunteers with organizations that promote financial education, such as the United Way, and previously served on a Connecticut town’s finance board.
