This Article was Updated July 5, 2018
When you are looking to buy a vehicle, the first thing you should do is apply for a preapproved loan. The loan process can seem daunting, but itâs easier than you think and getting preapproval prior to going to the car dealer may help alleviate a lot of frustration along the way.
Here are five steps for getting a car loan.
1. Check Your Credit
Before you shop for a loan, check your credit report. The better your credit, the cheaper it is to borrow money and secure auto financing. With a higher credit score and a better credit history, you may be entitled to lower loan interest rates, and you may also qualify for lower auto insurance premiums.
Review your credit report to look for unusual activity. Dispute errors such as incorrect balances or late payments on your credit report. If you have a lower credit score and would like to give it a bit of a boost before car shopping, pay off credit card balances or smaller loans.
If your credit score is low, donât fret. A lower score wonât prevent you from getting a loan. But depending on your score, you may end up paying a higher interest rate. If you have a low credit score and want to shoot for lower interest rates, take some time to improve your credit score before you apply for loans or attempt to secure any other auto financing.
2. Know Your Budget
Having a budget and knowing how much of a car payment you can afford is essential. You want to be sure your car payment fits in line with your other financial goals. Yes, you may be able to cover $400 a month, but that amount may take away from your monthly savings goal.
If you donât already have a budget, start with your monthly income after taxes and subtract your usual monthly expenses and how much you plan to put in savings each month. For bills that donât come every month, such as Amazon Prime or Xbox Live, take the yearly charge and divide it by 12. Then add the result to your monthly budget. If youâre worried, you spend too much each month, find simple ways to whittle your budget down.
Youâll also want to plan ahead for new car costs, such as vehicle registration and auto insurance, and regular car maintenance, such as oil changes and basic repairs. By knowing your budget and what to expect, you can easily see how much room you have for a car payment.
3. Determine How Much You Can Afford
Once you understand where you are financially, you can decide on a reasonable monthly car payment. For many, a good rule of thumb is to not spend more than 10% of your take-home income on a vehicle. In other words, if you make $60,000 after taxes a year, you shouldnât spend more than $500 per month on car payments. But depending on your budget, you may be better off with a lower payment.
With a payment in mind, you can use an auto loan calculator to figure out the largest loan you can afford. Simply enter in the monthly payment youâd like, the interest rate, and the loan period. And remember that making a larger down payment can reduce your monthly payment. You can also use an auto loan calculator to break down a total loan amount into monthly payments.
Youâll also want to think about how long youâd like to pay off your loan. Car loan terms are normally three, four, five, or six years long. With a longer loan period, youâll have lower monthly payments. But bewareâa lengthy car loan term can have a negative effect on your finances. First, youâll spend more on the total price of the vehicle by paying more interest. Second, you may be upside down on the loan for a larger chunk of time, meaning you owe more than the car is actually worth.
4. Get Preapproved
Before you ever set foot on a car lot, youâll want to be preapproved for a car loan. Research potential loans and then compare the terms, lengths of time, and interest rates to find the best deal. A great place to shop for a car loan is at your local bank or credit union. But donât stop thereâlook online too. The loan with the best terms, interest rate, and loan amount will be the one you want to get preapproved for. Just know that preapproved loans only last for a certain amount of time, so itâs best to get preapproved when youâre nearly ready to shop for a car.
However, when you apply, the lender will run a credit checkâwhich will lower your credit score slightlyâso youâll want to keep all your loan applications within a 14-day period. That way, the many credit checks will only show as one inquiry instead of multiple ones.
When youâre preapproved, the lender decides if youâre eligible and how much youâre eligible for. Theyâll also tell you what interest rate you qualify for, so youâll know what you have to work with before you even walk into a dealership. But keep in mind that preapproved loans arenât the same as final auto loans. Depending on the car you buy, your final loan could be less than what you were preapproved for.
In most cases, if you secure a pre-approved loan, you shouldnât have any problems getting a final loan. But being preapproved doesnât mean youâll automatically receive a loan when the time comes. Factors such as the info you provided or whether or not the lender agrees on the value of the car can affect the final loan approval. Itâs never a deal until itâs a done deal.
If you canât get preapproved, donât abandon all hope. You could also try making a larger down payment to reduce the amount you are borrowing, or you could ask someone to cosign on the loan. If you ask someone to cosign, take it seriously. By doing so, you are asking them to put their credit on the line for you and repay the loan if you canât.
When co-signing a car loan, they do not acquire any rights to the vehicle. They are simply stating that they have agreed to become obligated to repay the total amount of the loan if you were to default or found that you were unable to pay.
Co-signing a car loan is more like an additional form of insurance (or reassurance) for the lender that the debt will be paid no matter what.
Usually, a person with bad credit or less-than-perfect credit may require the assistance of a co-signer for their auto financing and loan.
5. Go Shopping
Now youâre ready to look for a new ride. Put in a little time for research and find cars that are known to be reliable and fit into your budget. Youâll also want to consider size, color, gas mileage, and extra features. Use resources like Consumer Reports to read reviews and get an idea of which cars may be best for you.
Once you have narrowed down the car you are interested in, investigate how much itâs worth, so you arenât accidentally duped. Sites such as Kelley Blue Book or Edmunds can help you figure out the going rate for your ideal car. After youâre armed with this information, compare prices at different car dealerships in your area. And donât forget to check dealer incentives and rebates to get the best possible price.
By following these steps, youâll be ready to make the best financial decision when getting a car loan. Even if you arenât ready to buy a car right now, it doesnât hurt to be prepared. Start by acquiring a free copy of your credit summary.
It is always a good idea to pull your credit reports each year, so you can make sure they are as accurate as they should be. If you find any mistakes, be sure to dispute them with the proper credit bureau. Remember, each credit report may differ, so it is best to acquire all three.
If you want to know what your credit is before purchasing a car, you can check your three credit reports for free once a year. To track your credit more regularly, Credit.comâs free Credit Report Card is an easy-to-understand breakdown of your credit report information that uses letter gradesâplus you get a free credit score updated every 14 days.