Read on to learn more about how to find the best deals, avoid unnecessary interest payments, and get the best car loan for you.

FINANCING OPTIONS FOR A CAR

Dealer and bank financing are the two major financing options for anyone who does not have the amount needed to buy a car all at once. While dealer financing is usually easier to obtain, bank financing is usually the best as it does not limit one to a particular dealer and interest rates are generally lower. When choosing between car loan options, the interest rate will be an important factor in determining which loan will make the most financial sense for you. In general, lower interest rates are usually better, however, there are other factors like the length of the loan and repayment terms that can make a loan with a higher interest rate more suitable for your particular needs. Interest rates and other important terms for car loans are largely dependent on your credit score, so the first step in determining which loan is right for you is to see which loans you will have access to by obtaining a credit report.

CHECK YOUR CREDIT SCORE

Credit scores help a lender determine how much and under what conditions it is safe for them to lend an applicant money. Knowing your credit score before applying for loans allows you to be selective about the kind of lenders to approach and ensures you have a higher chance of obtaining the loan you need for your intended vehicle. You can pay for a credit report, however, many credit monitoring services offer free annual credit reports over the internet, so be sure to check for these before spending any money to obtain your credit score. If there is anything wrong in the report, this would also be the right time to have any inaccuracy reported and corrected to improve the chances of getting a good car loan terms. Unlike other purchases, one can always have a car loan approved even with bad credit scores of below 700. The fact that car dealers and banks can repossess a car if the borrower defaults on payments is one of the reasons why they are easily approved. However, a poor credit score will likely result in a higher interest rate and higher monthly payments than you might receive with a higher credit score. So, before applying for an auto loan, be sure to get your credit score, check for errors, and look for any opportunities to improve your credit score before applying.

INTEREST RATES

There are several terms on a car loan that will help you determine if the loan is right for you. The interest rate, which is largely determined by your credit score, will be the most important factor. However, two other terms that should be considered are the length of the loan and the down payment required. In fact, as you are searching for loans, you may find that even though a particular financial institution is offering car loans at a higher interest rate than others, it might actually be a better deal depending on the length of the loan and down payment required. Since the value of the car you are purchasing begins to depreciate as soon as you drive it off the lot, you will want to be sure that the loan you take to purchase this vehicle does not cost more than the vehicle is worth if you should ever decide to sell the car. For example, if you purchase a vehicle for $30,000 with no down payment and a loan that requires you to pay $300 a month towards the interest of the loan and $100 towards the actual loan amount itself, in 12 months you will have paid $1,200 towards the loan and still owe $28,800. If you look at the resell value of your vehicle after one year of driving around in it and the value is $25,000, then you are losing money on your purchase. To ensure you don’t lose money on your purchase, let’s look at the effects of loan length and down payment more closely to ensure you are getting the best deal when selecting an auto loan.

LOAN LENGTH

In most cases, it is advisable to go with a car loan that is shorter as this reduces the total amount that one ends up paying in interest. For example, if you have a 4-year, $30,000 loan at 5% interest, you will pay $3,162 in interest over the life of the loan. However, if you make higher payments and are able to pay off the same loan in 2 years instead of 4, you will only need to pay $1,587 in interest. While longer-term car loans can reduce the monthly payments, they end up cost more in the long run. When considering the best car loan for you, be sure to calculate the maximum amount you can afford to pay each month to ensure you are keeping your interest payments as low as possible while also not overextending yourself and risking a missed payment. To keep your monthly payments low and avoid extra interest payments by having a long loan, you might want to consider a down payment on your loan.

DOWN PAYMENT

At first, the down payment may appear to be a simple lump sum that you pay up front to lower the amount of money you need to borrow. However, a down payment can also affect your interest rate which can considerably reduce the amount you will owe on your loan. By making a down payment of up to 20% of the total amount of the vehicle price, the risk to the lender is reduced in two ways: 1) they will not need to lend you as much money in order for you to purchase the vehicle, and 2) the lender can see that you have a source of income and the ability to save enough money to make a down payment. This second component is crucial for helping lenders determine how likely you are to repay your loan, which affects the rate of interest they will ask for in their loan. And, while a larger down payment will help lenders reduce their risk and make it easier for them to agree to more favorable terms for you, a large down payment also makes it easier to sell the car for more than the price of the loan if you should ever want to sell your car. For example, let’s say you take out a $20,000 loan for a $30,000 vehicle and make a $10,000 down payment. In 5 years, that vehicle is worth $22,000 so if you decide to sell it, you will easily be able to pay off your loan in full and use the remaining funds for a down payment on a new vehicle.

THE FINE PRINT

So, to put all of these pieces together, you'll want to begin by obtaining a free credit report and determining the types of loans you are eligible for based on your credit score. Then, take a look a the maximum monthly payment you can safely make. Afterward, determine the size of the loan you will need, taking into account any down payment you might be able to make, and then look for a loan that will enable you to make as few monthly payments as possible, at the lowest interest rate possible, while staying under your monthly payment amount. Before signing an agreement with a car loan dealer, or bank, take a minute to read the loan paperwork for additional terms in the fine print. Some of the things to watch out for include mandatory binding arbitration that takes away the right of going to court, variable interest rates which allows the lender to increase the interest rate after the loan has been issued, and any penalties incurred for early repayment.

Resources:

1. https://www.finder.com.au/car-loans#pb-2
2. https://www.thebalance.com/annual-percentage-rate-apr-315533
3. https://www.consumerreports.org/car-financing/costly-misconceptions-about-car-loans/
4. https://www.oaic.gov.au/individuals/faqs-for-individuals/credit-reporting/accessing-your-credit-report