If you’re looking to buy a new car, you will likely need to finance it unless you can pay for it in all cash. Fortunately, there are many options to finance a car, but understanding your options and how they work before you look for a loan is important.
Auto Loan Financing Options – Where can you Get a Car Loan?
You can get a car loan in many places including the dealership. Many people assume they should just get their loan at the dealer since it’s a one-and-done, but it’s not always the best place. Here are your options when financing a car.
Local Bank
If you have a good banking relationship with your local bank, consider getting your loan there. You may have access to relationship banking rates, which are lower rates than they offer non-customers.
If you have good credit and a low debt ratio, this could be your best option. You’ll likely save the most money and can get approved fast.
Credit Union
If you’re a member of a credit union, ask about their options for car financing. Some credit unions will even let you join if you get approved, like Digital Credit Union. You don’t have to be a member to apply but if you get approved, you must then join and get the benefits of a credit union membership.
Credit unions often have the lowest interest rates and fees, so it should definitely be high on your list of priorities when shopping for a car loan.
Online Lender
Today you can get financing for just about anything online, including car loans. You can shop with a car loan aggregator, which is like a broker. They match borrowers like you with one of the hundreds of lenders they work with based on your qualifying factors.
You complete one application, and the aggregator sends your application to any lenders they think are a good fit. The lenders will decide if you’re pre-approved and send you a quote if you’re approved. You then work directly with the lender if you accept their quote.
Dealership Financing
Most dealerships also offer financing. They partner with many banks, sometimes hundreds, to match customers with financing. The downside of dealership financing is they have control over the rate they give you. Most dealerships inflate the rate, so they make a commission on it from the bank because the higher the rate they quote, the more money they earn.
How Does Car Financing Work?
The basics of car financing are the same no matter where you get it. Here are the terms you should know.
Loan term – This is how long you have to pay the loan back. Most car loans are for 2 – 5 years. The occasional lender may offer a 7-year term, but since cars are depreciating assets, it doesn’t make sense to finance a car for that long.
APR – This is the interest rate lenders charge to loan you the money. You pay interest on any outstanding balance. As you pay the principal balance down (the amount you borrowed), you’ll pay less interest.
Loan amount – This is the amount you borrow. Let’s say you buy a car for $20,000 and you put down $5,000. Your loan amount would be $15,000.
Down payment – This is the amount of money you invest in the car. The more money you put down, the better rate and terms you’ll get. Most lenders require at least 10% down, but it’s never a bad idea to pay more.
You’ll have a fixed monthly payment for your car loan. In the beginning, a larger portion of your payment will go toward interest because you have a higher principal balance. As you pay the balance down, the interest charges decrease, and a larger portion of your payment goes toward your principal.
When you pay the car loan off in full, you’ll receive the title for the car, until then the bank holds the title since they keep the car as collateral.
How do you Qualify for a Car Loan?
Qualifying for a car loan isn’t as hard as most people think. They have flexible guidelines and approval usually occurs within a couple of hours. In some cases, you can even finalize the financing and take the car on the same day.
Documents Needed
To qualify for a car loan, you must prove your identity, employment, and income. You must also prove you have insurance to drive the car.
- Driver’s license – You must be able to prove your identity and your right to drive. A current driver’s license is always required.
- Proof of residence – If you’ve been at your residence for less than 2 years, you may have to provide a bill or other official piece of mail along with your license to prove your residence.
- Credit history – You must provide approval to pull your credit and review your credit history. Lenders use your credit score to qualify you for financing.
- Proof of income – Lenders usually need to see your last two paystubs and sometimes your W-2 from the previous year to verify your income.
- Contact information for your employer – Your lender may call your employer to verify your income.
How to Get Approved
There are car loans for borrowers with good and bad credit, but you’re much better off if you have great credit and a low debt-to-income ratio.
Do what you can to improve your credit, lower your debts, and prove you have enough income to cover a car payment, your existing debts, and still have enough money to cover your daily cost of living.
What Happens if you Don’t Pay the Car Loan?
If you default on your car loan, the bank can take your car. You borrow what’s called a secured loan. The car is the collateral. If you miss a payment, they’ll start calling you and ask for the payment. If you miss more than 3 payments, they may start the repossession process and come and take your car.
It’s best to only take on a car loan you know you can easily afford even if you were to lose your job or have another financial struggle, so you don’t risk losing your car.
Is Financing a Car a Bad Idea?
Many people assume since a car is a depreciating asset, that financing a car is a bad idea. It’s not always a bad idea, though, unless you finance a car you can’t afford or don’t need. For example, if you buy a luxury car because you can finance it, then the financing is probably a bad idea. You’ll pay interest on a car you really don’t need.
But, if you can’t pay cash for a car, financing is a necessity. As long as you buy a car within your means and don’t go overboard, taking extra long terms just to afford a more expensive car, it can be a good idea.
When you shop around for a car loan, make sure you take the loan with the best interest rate and lowest fees. Keep your extra costs to a minimum so you can enjoy owning a car and not find yourself drowning in debt.
Should you Pay Cash for a Car?
If you have the cash to buy a car, you may wonder if you should just skip the financing and pay cash.
Sometimes it makes sense, but not always.
If you have the cash and spending it won’t deplete your savings, it could be a good idea. You avoid all the extra charges and only pay what the car is worth. But since cars aren’t a liquid asset, if spending the cash will cause financial strain, don’t do it.
You can make a larger down payment and finance the rest, but don’t put yourself in financial trouble by tying up all your assets in a car. Since you’ll lose as much as 10% of the car’s value just driving off the lot, it’s often not smart to pay all cash for a car because if you need to sell it fast to get the capital, chances are you’ll come up with less money than you invested.
Key Takeaway
Most people finance a car and understanding how it works and which loan is best is important. Don’t buy a car you can’t afford. Don’t stretch out the term so your payments are lower. Keep your term short and your payments low, buying a car that gets you where you need to go without making you go broke.
