Learn how to get a car loan the right way so that you save money on interest, avoid overpaying, and find the perfect car for you.
1. Check your credit
Your credit score is one of the most important factors. It affects your annual percentage rate (APR), and whether or not you get approved.
Since your credit score plays a big role, you need to take a look at your estimated credit score through your credit-monitoring system before you apply.
You can also get a free copy of your credit report once every 12 months from AnnualCreditReport.com.
Before you apply for a car loan, check your credit reports for errors, fraud, and any incorrect information. You don’t want to apply for a loan, only to get a high-interest rate due to inaccurate data.
When it comes to the APR, your credit score, and the model year of the car will make the biggest impact on your interest rate.
The following chart shows the average interest rates based on credit score:
|Credit score||New car APR||Used car APR|
|720 or higher||3.65%||4.29%|
|660 to 719||4.68%||6.04%|
|620 to 659||7.65%||11.26%|
|580 to 619||11.92%||17.74%|
|579 or below||14.39%||20.45%|
Knowing this before you head to the dealer or start a conversation with a private seller will give you an idea of what to expect, and help you decide on a budget for your car.
2. Estimate how much you can afford
After you have an idea of what your credit score is, and what’s reporting on your credit report, you can begin to figure out what your budget will be.
According to the Consumer Financial Protection Bureau, your debt-to-income (DTI) ratio should be under 43%.
To figure out what your current DTI is, divide your monthly expenses by your monthly income before taxes.
If you’re under 43%, great. If not, you may want to consider paying off other debts before getting a car loan.
Once you know that your current DTI is in good shape, figure out how much you’re willing to pay for a car.
Bankrate has an excellent auto loan calculator to help you compare loan amounts, interest rates, and terms.
3. Compare rates from multiple lenders
Once you have an idea of how much you’re willing to spend on a car, it’s time to compare rates and search for the best option.
When you’re preparing to finance a car, check with multiple lenders to find the best rate. The more options you have to compare, the better.
You can check with credit unions, banks, and online lenders.
Generally, credit unions offer better interest rates than banks and online lenders. However, you’ll have to become a member. The stipulations depend on the credit union.
4. Get pre-approved for an auto loan
After you compare the rates and find a couple of lenders that you like, get pre-approved. In most cases, a pre-approval will cover the loan amount, and there’ll be stipulations before you can complete the loan.
The possible stipulations can include a signed purchase order, bill of sale, and current registration if you’re buying from a private seller.
Lenders can also have maximum loan-to-value ratios, and mileage on the vehicle.
When you’re getting pre-approved, it’s important to notate the stipulations that need to be satisfied.
Pre-approvals are beneficial because it’s a conditional way of the lender saying that they’re willing to give you a loan.
You can get multiple pre-approvals in case one falls through. One of the main objections is that multiple pre-approvals mean multiple credit inquiries.
While that’s true, most credit scores will count multiple car loan inquiries as one (Source: Experian). They understand that several inquiries in a short period mean that you’re shopping for the best deal, instead of buying multiple cars.
A pre-approval will also help you set a realistic budget because you’ll know how much you’re approved for and the potential interest rates based on your credit score.
You’ll also be in a more powerful position when it comes to negotiation. All you have to do is stick to a price that you feel good about, and that’s less than your pre-approval amount.
5. Budget for sales tax and fees
Don’t forget about sales tax, title, and other fees, which will vary by state and be calculated at the time of purchase.
The following are common costs that come with getting a car:
- Vehicle registration fee.
- Sales tax.
- DMV fee.
- If you purchase through a dealership, you might pay a documentation fee, dealer fee, and possibly, advertising fees.
You may also have the option to pay taxes and fees out-of-pocket. The other option is to add it to your loan, which will increase your monthly payment.
Once you have all of the numbers, double-check your debt-to-income ratio to make sure it’s still feasible. The last thing you want is to have more than half of your income going towards debt.
6. Find your car
By now, you’ve probably shopped around online and found a few cars that you’re interested in. However, now that you have run the numbers, and know how much you can afford, it’s time to find your car.
If you’re planning to purchase your car at a dealership, walk in with an idea of how much you want to spend, and share with the salesperson that you’ve been pre-approved.
Sometimes, the dealer is able to offer you a better deal, but check the small print to make sure there aren’t extra fees.
If you plan to buy through a private seller, meet with the seller and get the car inspected.
You should also research the car’s history with a company like Carfax to make sure you know what you’re getting. Also, make sure the title is real and check for liens on the car.
Regardless of which method you choose to purchase your car, always try to negotiate so that you get the best deal.
7. Finalize your loan
When you’ve found the perfect car, it’s time to finalize your loan amount, terms, interest rate, and get the car.
If the dealership beats your pre-approval, and is an overall better deal, then that’s excellent. You can disregard the pre-approval and move forward with the dealer.
Just make sure there aren’t any hidden fees, or things you didn’t ask for.
If you’d like to move forward with your pre-approval, the lender may require a signed bill of sale, or purchase order. Once they finalize the loan, you’ll likely get a cashier’s check to pay for the car.
If you’re buying through a private seller, paying with a cashier’s check or cash are the two most common payment methods.
Once you get your loan, be sure to make all of your payments on-time. In addition to on-time payments, pay more than the minimum payment when you can.
Additional payments will go towards the principal amount, which means you’ll pay off the loan sooner. Make sure the lender doesn’t charge pre-payment penalties, so that you can pay it off early without any fees.
How to get a car loan with bad credit
If you have a lower credit score or negative information reporting, it may be difficult to finance a car.
With bad credit, it’s still possible to get a car loan. However, you’ll likely have a much higher interest rate, maximum term for the loan, or have to make a down payment.
If it’s possible for you to wait several months before getting a car, focus on improving your credit score.
You can pay off any collections, bring all of your accounts current, pay down existing debt, and make your payments on time.
By improving your credit, you can qualify for better interest rates.
Frequently asked questions
Is it better to get a car loan through a bank or dealership?
Getting an auto loan with a bank or credit union is an excellent way to have the advantage when it comes to negotiating the price, and they normally offer better rates. However, you can always get a loan with a dealership and refinance with your financial institution.
How much should you put down for a car?
Although a down payment isn’t necessary, a 20% down payment is a good idea because it’ll prevent you from paying for a car that’s worth less than the loan amount.
When is the best time to buy a car?
The end of the year and holiday’s are the best times to buy a car. It’s when you’ll be able to get the best deals. Especially for cars that are going to be a year older.
By understanding the steps to getting a car loan, you can be well-prepared. You’ll know how much you can afford, and get pre-approved to have the upper-hand with negotiations.
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About David Em
David Em is the founder of More Money More Choices, which he launched to help you take control of your finances and build your dream life. Before More Money More Choices, David worked in leadership positions in the finance industry.