7 Tips for Getting the Best Auto Loan
With plenty of online auto lenders available, there’s no
shortage of opportunities to get approved for your next car loan. At the same
time, you want to make sure you get access to the best interest rates and other
loan terms. Here are 7 tips to help you each step of the way.
#1: Determine Your Budget
Most online auto lenders offer different types of car loan
calculators so you can get a feel for how much you can spend on a monthly basis
and how that translates into the purchase price of a vehicle.
To get started, think about how much cash you’ll have
upfront to put towards buying your new car, whether it’s through a down
payment, the trade-in value of your current vehicle, or both. It may take
longer to save up for a larger down payment, but you’ll put yourself in a
better financial position in the years ahead. If you don’t need a new car right
away, consider taking the time to save up and make a larger down payment so you
can appreciate lower monthly payments and pay less interest over time.
Using a car loan calculator, you can input different values
to see how these variables impact your monthly payment. You’ll also need to
fill in your estimated interest rate to see how that impacts your potential car
payments. Be sure to stick to a price range that comfortably suits your budget
over the span of the loan term.
#2: Check Your Own Credit Score
Before jumping into the car shopping process, get an idea of
your credit score so you know what to expect in terms of interest rates. There
are a few different ways to do this. You can first check out free educational
credit scores on reputable websites. The only problem is that these scores
aren’t derived from the widely-used FICO scoring model. Plus, car lenders often
use an auto-specific FICO algorithm, which means your free credit score may not
match what they pull for your application.
Another option is to see if your bank or credit card company
offers a free monthly FICO score. This is becoming a popular service, and while
it’s more accurate than the free websites, it still won’t be the auto-centric
score.
Take advantage of free FICO score checks from your existing relationships with your bank or credit card.
The final option is to pay for your credit score directly from
the scoring model your lender uses. To get your FICO auto score, for example,
you can pay a one-time fee to see where your credit currently stands.
#3: Consider Your Financing Options
There are multiple ways you can choose to finance your next
auto purchase:
- Online lenders
- Banks and credit unions
- Dealer financing
Working with an online lender is probably the most
convenient way, but you can explore other options as well to compare offers and
get the best rates. Despite being convenient, using the dealer may cause you to
lose cash incentives on your vehicle’s purchase price if you try to negotiate
your interest rate.
Both national and community banks offer auto loans. Credit
unions have a reputation for offering competitive interest rates for vehicle
financing, but they also require membership as well as a minimum balance in
your savings account. Dealers also offer in-house financing. While convenient,
they’re known for offering high interest rates and expensive fees. You can still hear what the dealer financing
has to offer, but getting pre-approved with another lender gives you a better
basis of comparison so you know whether or not the dealer interest rate is
marked up.
#4: Avoid Paying for Upgrades
Sticking to the basics when selecting your car is another
way to ensure you’re getting the best auto loan possible. While upgrades are
easy to add on and may not seem to significantly increase the overall cost of
the car, those extras can add up quickly.
Not only do your monthly payments increase because of the
new loan amount, you’ll also accrue more interest over the life of the loan.
Carefully weigh the importance of each upgrade you’re considering and make sure
you can handle the extra cost of the payments each month.
#5: Compare Rates for New vs. Used Car Purchase
When looking at car loan rates, you may notice a difference as
you calculate payments for a new car versus a used one. There are a couple of
different reasons why new cars warrant lower interest rates:
- Borrowers usually have
better credit
- Lender incentive for a
higher loan amount
- Manufacturer’s warranty
helps protect the car
Of course, new vehicles automatically lose a substantial
amount of value once they’re driven off the lot, so you should look at the big
picture (and not just interest rates) when choosing between a new or used
vehicle.
#6: Choose the Right Loan Term
Most lenders offer auto loan terms of 24, 36, 48, 60, 72,
or 84 months; in other words, between two and seven years. Selecting a longer
loan term can help lower your monthly payment amount since the loan is spread
out over an extended period of time.
The downside is that depending on the condition of the
vehicle, it could start to significantly age and deteriorate as you enter the
last few years of your loan term. You’re also likely to pay more in interest
since you’d be making payments longer.
A shorter loan term can leave you with higher monthly payments so weigh the short term and long term savings as part of your decision.
Even if you can afford them now, you may have less
breathing room in the event of a financial emergency. On the plus side, you’ll
save more in interest because you won’t be making payments as long.
#7: Avoid Costly Surprises
It’s important to take into account other common charges
when financing a car. In addition to sales tax, you’re also responsible for
title, tag, and documentation fees. All of this can quickly add up to a couple
thousand dollars or more.
In some cases, you may be able to roll these costs into your
loan amount, but if you’re already shopping at the top of your budget, you may
have to pay cash. Get an estimate of these figures before you begin car
shopping so you can plan ahead to either pay yourself or keep your car loan
amount in a range that allows you to add them to your monthly payments.
Preparing for a Car Loan
Remember that auto credit scoring models differ from more
general scoring models. If you have negative credit entries based on student
loans, for example, but consistently made former car payments on time, your
credit score may not be as bad as you think.
When preparing for a car loan, understand how applications
impact your credit score. Loan inquiries (as well as other credit inquiries)
are added to your credit report and cause your score to drop a few points each
time. But if you apply to multiple lenders within a few days (normally 14 days
or more) for the same type of loan, the lender you choose counts that batch as
a single inquiry rather than several. That’s because it’s clear in this
instance that you’re interest rate shopping to get the best deal, not shopping
for multiple loans because you’re strapped for cash.
Options for Bad Credit Borrowers
If you have bad credit, adding a co-borrower to your
application potentially helps you in two ways. First, it may improve your
credit score, and consequently your interest rate, if the co-borrower has a
better credit score than you do. Additionally, adding the income of a
co-borrower also allows you to qualify for a larger loan amount.
Of course, there are some downsides associated with
getting someone else to help you qualify for a car loan. For starters, you may
be tempted to buy a more expensive car than you can afford, putting a tight
squeeze on your monthly budget.
If you end up falling behind on auto loan payments, those
negative entries added to your credit report are also added to your
co-borrower’s. If it’s not a spouse or other close relative involved in your
finances, you can cause major damage not only to their credit score, but to
your relationship as well.
Rather than applying with a co-borrower, you may consider
using a larger down payment amount. Lenders may be more flexible about your
credit score if you put more money down. You’re also more likely to get
approved for a used car loan than a new car loan with lower credit, so be
flexible throughout your care search.
Cash Required
Once you receive a loan offer that works for you, you’ll
need some type of upfront cash, whether it’s a down payment or a trade-in
vehicle. Assuming your trade-in value is more than the current loan amount,
you’ll simply deduct that amount from the price of the new car.
Remember to shop around for the best trade-in deal. You
don’t need to sell your existing car to the same dealer from which you’re
purchasing a new car. In that instance, you just receive a check for the
trade-in amount and then use that to make a down payment on your new vehicle.
Frequently Asked Questions
Is it better to finance a car through a bank or dealership?
If you have an existing relationship with a bank or credit union, you may find a better interest rate, especially if you have any kind of savings accounts with them.
Most car dealerships also offer financing. This route can be tempting because you can pick out your car and get your car loan all at once. But borrower beware: many dealers offer steep terms and expensive financing charges.
Online auto lenders are both convenient and allow you to comparison shop. Plus, you can get quick financing in order to get on the road with your new vehicle as soon as possible.
What kind of credit score do you need?
The necessary minimal credit score depends on a variety of factors. Most importantly, it depends on the lender. Different lenders set different standards surrounding the type of credit scores they require. Those with a lower score will end up paying higher interest rates, so it’s best to maximize your score before applying for a car loan. If your credit score has suffered recently, look for lenders that are willing to work with bad credit borrowers.
How do you qualify for an auto loan?
At a minimum, you can expect a few consistencies in the car loan process no matter which lender you ultimately select. Lenders review your credit, income, and other monthly debt payments to determine how much they’re willing to lend you and how much interest you’ll pay.
You’ll need to provide your social security number in order to have a hard pull performed on your credit score. You’ll also need to verify your income to prove that you’re financially capable of making your payments. Recent pay stubs and bank statements typically work to satisfy this requirement.
How long do car loans last?
The length of the car loan depends on the offers you receive from one or more lenders. It’s actually a very important part of the loan offer and impacts the cost of your monthly payments as well as how much you’ll pay over time.
When should you apply?
Applying for a car loan online is a quick process with most lenders. However, it’s best to get started before you actually start shopping for a car so you know the exact amount for which you qualify and what those monthly payments look like. Applying in advance can also give you negotiating power with your car salesperson because the sale isn’t contingent upon you taking an offer from their financing team.
Can you use a co-borrower on a vehicle loan?
Whether or not you can use a co-borrower depends on the lender you choose for your vehicle loan. When you add a co-borrower to your application, you can use their income and credit score to help you qualify.
Do online lenders charge a fee?
There are typically a few fees and other charges associated with getting a car loan. While most lenders don’t charge an application fee to get pre-approved, you can expect an origination fee. This usually ranges between 1% and 2% of the loan amount. For example, if you take out a $15,000 loan for your vehicle, you could pay an additional $150 to $300 for the origination fee.
How much should you put down on a car?
Most people make a down payment totaling 5% of the vehicle’s purchase price. For a $15,000 car, that comes to $750. The ideal down payment is 20% because it lowers your monthly payments and can qualify you for better rates with your lender. On the same $15,000 car, a 20% down payment comes to $3,000.
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by Lauren Ward
Personal Finance Writer
Lauren Ward is a personal finance writer with nearly ten years of experience covering topics like loans, credit, and real estate. She lives in Virginia with her husband and three children.
