How do I lend money to a friend for a car and put the car as collateral?
A friend of mine wants to buy a car, but does not have the money for it.
Instead of him going to a bank and borrowing the money to buy the car, I was thinking of maybe taking some cash from my bank account (that is currently only earning 2% a year) and loaning him the money.
To secure the loan, would it be possible to take the car as a collateral?
If something goes wrong, what would stop him from selling the car to someone else without reimbursing me?
Will this collateral be registered in a database somewhere so the car cannot be resold before I am paid?
If he stops paying me, at which moment can I legally take back the car?
Do I need to pay a bailiff or can I myself take back the car?
Can I force him to take a 2-sided insurance policy (to protect the collateral), and how can this be enforced?
I know that's a lot of questions, but unfortunately not a lot of resources are available on Google about this. Maybe you can refer me to a website or a book about the subject.
I live in Canada.
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Buy for your friend a cheap and reasonably reliable used car.
You can get such car for less than you would spend on lawyers to write a contract for the loan in your inquiry (so you and your friend are already ahead financially - because otherwise this cost would have to be added to the loan your friend would have to finance, and you risk to lose).
If he can return you the price, eventually, with a small profit - great.
If not, you lost the friend, money, or both, but avoided lots of hassles (lawyer for contract, title, hiring outside company to repossess that car), which you would have do (and spend additional money - throwing good money after the bad) anyway if the loan went wrong.
Don't buy and loan the car: if you own it, you own whatever damage your friend does with it.
To secure the loan, would it be possible to take the car as a collateral?
Yes it is possible. But to do this you have to create a lien, which is a legal document, and you would need a lawyer to do it.
With the lien: A) yes you stop him selling the car B) Yes this will be registered C) Yes you can take the car back.
Without the lien the answer to all of the above is no.
There is a much easier way.
Buy a car and then loan the car to your friend. Decide what car your friend would like and what monthly payments they can afford. Then go and buy the car, and let your friend use it for as long as they keep making the monthly payments. You get to take out the insurance (make sure that is factored into the payments). Work out who pays for servicing and other costs. If you friend stops paying you can just take the car back, since it is yours.
Some catches
Be aware that the car will depreciate much faster than the "loan" will be paid off - at least if it is new or nearly new. If your friend decides after a year that he doesn't like this setup and stops paying and hands you the car back, the amount he has paid so far won't cover the loss of value of the car. You will need to make it clear to him that he has to keep doing this for a few years. Work out the math.
A) Their word and your lawyers. Also, see B
B) File a lien on the title
C) Outline these details in the contract
D) You can try taking it back yourself through legal means but paying a reputable repo company might be better
E) See C and request that they supply you a copy of their insurance policy upon every renewal.
F) Mortgages have something called PMI (private mortgage insurance). It basically protects the lender if the borrower defaults on the loan. You should research whether an insurance company will insure your loan in case your friend defaults. If you find something in this realm then work it into C.
G) Personally verify and re-verify that all aspects of the contract are upheld, especially the insurances.
As a frame challenge to your question, consider that a deposit in your bank is essentially you giving a loan to the bank. Now the bank has money which they can loan to your friend! Yes, you're only making 2% by loaning money to the bank, but this way, the fact that you're only earning 2% is essentially you allowing the bank to keep a portion of the interest that you could be making off your friend, in exchange for you not having to worry about the risk or servicing of the loan all by yourself. You are hiring the bank to do the dirty work and take on all the risk.
If you're truly not willing to do that, and you want to ignore the (common and justifiable) advice to never lend to friends unless you're willing to give the money away, then consider that you basically need to set yourself up to carry out all of the processes the bank would do when they write a loan:
You need to establish risk in order to price the loan. People who are at a higher risk of not paying the loan back will pay higher interest rates, as a way to offset the potential for loss. A bank typically does this by looking at a person's finances and their credit report. As an individual, it will be hard or impossible for you to (legally) obtain a credit report, so you'll be taking your friend's word at what they tell or give you. And, since you have no lending data at your fingertips, your pricing decision will essentially be arbitrary anyway, which basically means it'll likely be wrong.
You need to establish a way to retain a legal right to ownership of the vehicle. This is done by registering a lien against the vehicle. There are services which let you research or register liens in Canada.
You need a way to repossess the vehicle if someone doesn't pay. This quickly gets very messy, even if you legally have right to the vehicle and a legal method to repossess it - only a small percentage of vehicle repossessions are successful, and an even smaller (very nearly zero) percentage result in the lender recapturing their loss via repossessing the vehicle. People who are in a situation where their vehicle is about to be repossessed aren't typically doing a great job of keeping their vehicle in great shape and leaving it somewhere where it'll be easy for you to come snatch it. A more likely scenario is that they'll hide the vehicle, it'll be in a state of disrepair, or they will deliberately trash it as a way of "getting back" at the lender. In short, showing up at your friend's house and saying, *may I please have the keys to your car?" will probably not work. Most successful repossessions are done without cooperation from the borrower (the vehicle is dragged onto a tow truck and you have to pay a locksmith to break into it and make new keys - which can be prohibitively expensive for a modern vehicle with smart fobs). This can quickly cost you enough that it destroys your chance of recovering value - by the time you have the car towed, unlocked, new keys made, and ownership transferred to you, you may have lost hundreds or thousands of dollars. Many lower value vehicles are simply towed to a scrap yard when they are repossessed, since they're not worth putting back on the road after repossession.
You'll need to ensure that the friend keeps insurance on the vehicle to protect you from loss in the case that the vehicle is damaged in an accident. It's not likely that you're in a position to interface with insurance companies and the MOT in the same way as a bank does in order to track registration and insurance on the vehicle, so you'll be taking your friend's word for this. You'll also be at your friend's mercy in terms of actually working with the insurance plan if something does go badly.
You may think, but can't I just write a contract with my friend that legally protects me from all that? Yes! You can certainly write any contract you want. But, good luck actually enforcing a contract on someone who is in a bad financial position. Even if your friend is cooperative (which - believe me - they won't be), consider that you can't squeeze money from a rock. If the car is lost, and your friend literally has no money, contracts don't matter. You are left with nothing.
To circle back to my first bullet point, it's important to understand that lenders make pricing decisions by basically averaging risk across a very large pool of loans. A bank that writes a few thousand loans in a year can average the risk of borrowers defaulting on fifty of them across the entire pool. Basically, the interest they collect on the entire portfolio helps them pay for the losses they incur on the tiny percentage that go poorly.
Meanwhile, when you only have one loan, you lose the effect of things averaging out, and it becomes very black and white. Either you get lucky and things go smoothly, or you get unlucky and end up in a very, very bad spot. There's no "safety net" of other car loans sitting in your portfolio paying you interest to balance out the handful that go bad in a given year. While it's easy to talk through the mechanics of how a single loan works, it's important to consider that lending as a commercial activity only works when a lender is able to balance risk across a large portfolio.
From a purely mathematical sense, this is why a single person making a single loan to a friend doesn't make sense. You can't simply scale down a model meant for thousands of loans and try to get it to work on one loan.
This isn't even really a comprehensive answer, but hopefully you get the idea- as a lender, if you want to make a loan with collateral, you need contingencies stacked on contingencies in order to have any chance of getting anything back at all. And then if things do go south, you still have risk that your contingencies fail and you're left empty handed, or things drag out and get complicated enough that you wish you'd simply been left empty handed.
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