Taking out a loan is one of the most common ways that Americans finance a new or used car. In fact, at any given time, around 30 percent of the U.S. population is paying off a car term. Obtaining an auto loan can be done through many different lenders, from banks and credit unions to car financing companies and auto dealerships.
While an auto loan is typically secured by the vehicle itself, the interest rate, monthly payments and repayment terms, and other details are determined by the type of lender and the borrower's credit history and financial situation. You will encounter many different lenders, each with unique auto loan options; let's review the ones you will likely encounter based on the two primary types of auto loans: direct and indirect.
1. Direct Auto Loan Providers
What is a Direct Auto Loan?
Also called "direct financing," direct auto loans are made directly to you from a lender—there is no middleman. Examples include banks, credit unions, and online lenders. Getting a direct loan means you can shop and compare several auto loan options because it isn't tied to a specific vehicle on the dealer's lot. With the freedom to get quotes from several lenders, you can choose the best loan terms and rates (rather than taking the package you match up with).
What Is the Process for Direct Auto Loans?
With direct financing, you need to manage two separate transactions: getting the loan and buying the car. First, you will prequalify with a few different lenders so you can choose the best loan term for your situation. After you get your loan approval, you'll need to visit the dealership and buy your new or used car. Finally, you will start making monthly payments on your auto loan.
When car buyers consider places where they can apply for auto loans, a bank is likely top-of-mind because of an existing relationship. Banks offer a wide range of financial products and services—such as checking and savings accounts, mortgages, and new car loans—and usually have personnel on hand at a local branch to answer questions and assist with paperwork. Additionally, banks offer opportunities to refinance an existing loan at more favorable interest rates.
While a bank might be the first thing that comes to mind when shopping for new car loans, it's important to recognize that they have higher costs associated with loan applications and servicing fees (which are passed along to you). Banks can also resell loans to other banks or financial companies, and this may mean that fees, interest rates, and procedures may change—often with little notice.
Who Are Bank Car Loans Best For?
Traditional banks generally offer competitive loan terms on auto financing to consumers with excellent credit. To get the best auto loan rates from a bank, an above-average credit score is a must. Your credit score will affect the interest rate you are offered, so it's a good idea to check your credit reports before applying for a car loan.
While a lower credit score doesn't mean you'll automatically be denied an auto loan, you should expect the borrowing costs to be substantially higher. If you have a poor credit score, taking steps to improve it before applying for a car loan at the bank can result in a lower annual percentage rate.
A credit union is a non-profit financial institution that is owned and controlled by its members. Like a bank, a credit union provides a range of financial products and services—including direct auto loans—to its members. Credit unions are popular with consumers because of the favorable rates and terms offered, in addition to their focus on providing excellent customer service.
Every federal credit union in the U.S. is overseen by the National Credit Union Administration (NCUA), an independent government agency that provides chartering and supervision. The National Credit Union Administration was created in 1970 and is responsible for ensuring the safety and soundness of the credit union system and protecting the rights of credit union members.
Who Are Credit Union Car Loans Best For?
To get the best deal on an auto loan from a credit union, you will need to be a member. Unfortunately, joining a credit union isn't as simple as opening a bank account because you must meet their membership requirements.
Common requirements include living in a specific region of the country or working for a particular employer. However, if you can meet a credit union's requirements, becoming a member will help you qualify for the low auto loan interest rates they offer.
How To Get the Best Car Loan at a Credit Union
When applying for an auto loan from a credit union, it's a good idea to have a clear understanding of your budget and what you can afford in terms of a monthly payment. You should also be prepared to provide the credit union with information about your income, expenses, and employment history.
It's important to shop around and compare rates from multiple credit unions to find the best deal and to be prepared to negotiate with the credit union if you think you can get a better rate or more favorable terms. By doing your research and being an informed consumer, you can get the best deal on an auto loan from a credit union.
Operating in the direct-to-consumer space, online lenders offer auto financing services to consumers via a website. Most finance companies that fall into the online lender space are a division of a larger financial institution. For example, RoadLoans is part of Santander Bank, LightStream is a division of Truist Bank, and Lending Club car loans are done through WebBank.
Who Are Online Lenders Best For?
Many online lenders operate in the subprime credit area of car loans, so having a low credit score isn't an automatic disqualifier. For those who have poor credit scores, an online lender may be one of the only options available. If you have a low credit score and know that you will be looking for new car loans in the near future, improving it even a few points can be the difference between paying more interest on a loan—or not.
2. Indirect Auto Loan Providers
What is an Indirect Auto Loan?
Indirect auto loans (also called "indirect auto financing") are loans brokered by the dealership where you are purchasing your car. Depending on the new or used vehicle you want to buy, the dealership puts together an auto loan package from lenders in its partner network. So, while direct financing involves two transactions—one with the auto loan lender and one at the dealership to purchase the car—indirect financing is all done at the dealership.
What Is the Process for an Indirect Auto Loan?
Indirect auto financing is when an auto loan lender offers financing to the vehicle seller (usually a dealership) instead of directly to the buyer. The dealership then passes the financing along to the person buying the car, who then makes regular monthly payments to the lender until the loan has been paid off.
Since there can be multiple parties involved in an indirect auto loan, the easiest way to quickly understand it is with advertisements. The next time you are watching TV, pay special attention to the manufacturer (e.g.: Dodge®, Chrysler®, Jeep®, Ram®) car ads which include special promotions offered to "well-qualified buyers" and direct car shoppers to their local dealership (or showroom). In this case, the manufacturer is the lender, the local dealership is the broker, and you are the borrower.
The Dealership's Finance Office
Dealer financing is typically an indirect financing option offered by the car dealership that is selling you the vehicle. Both independent and franchise dealerships (dealers that work directly with a manufacturer) offer in-house financing. This may be through a finance company owned by the manufacturer (captive finance companies), the dealership, or a third party.
Available exclusively to customers who finance through the dealership, dealer-arranged financing typically offers competitive interest rates and special promotions, such as no or low interest. Dealership financing can also be convenient since you can complete the entire transaction, from selecting a vehicle to obtaining financing, at a single location.
Get the Best Car Loan From a Dealership
Like every other lender, getting great car loan rates from a dealership involves a little bit of research and preparation. Start by checking your credit score and report to get an idea of the auto loan interest rates you may qualify for. Next, shop around for interest rates from multiple lenders to compare and get a sense of what is available. Bring all this information with you when you go in person to the dealership.
When you visit the dealership, negotiate the price of the vehicle and the loan separately. Don't be afraid to walk away if the car loan you are offered is not competitive. If you were able to get pre-approved for a car loan from a different financial institution, bring that loan amount offer with you to use as a negotiation tool.
Perks of Dealer Financing
Keep in mind that dealerships may also offer additional incentives—such as complimentary routine oil changes, upgrades on rims and wheels, winter tires installed at a service center, and even custom MOPAR parts done at its body shop—that can add value to the loan. Dealerships can also include a trade-in value for your existing vehicle. However, be sure to carefully evaluate these options and understand the additional cost involved.
10 Tips To Get the Best Car Loan for Your New Vehicle
1. Shop Around at Multiple Lenders for a Car Loan
To find the best deal on an auto loan, getting the best financing is important because it can result in a lower interest rate and a lower monthly payment. Shop around and compare the rates of car loans from different lenders, such as your bank and the dealership. Comparing rates from different lenders will help you identify the car loan package that saves you the most money.
Shopping around for car loans will also give you more bargaining power when negotiating with the dealership. Knowing the interest rate and terms of auto loans you are qualified for gives you leverage in negotiations, so you can negotiate the best possible deal. By taking the time to shop around and compare rates, you'll potentially save thousands of dollars over the life of your car loan.
2. Know Your Credit Score
Regardless of the lender you end up choosing, your credit score will impact the interest rate you are offered. So, it's important to get a copy of your credit report to know where you stand when applying for car loans.
You can request a free copy of your credit report annually from each of the bureaus at the website AnnualCreditReport.com. Additionally, you can purchase your credit score directly from the credit bureaus or from other financial services providers, like banks and credit card companies.
Some websites and apps also offer free credit score estimations based on information from your credit report. However, these scores may not be as accurate as the scores obtained directly from the three credit bureaus.
3. Negotiate the Price of the Vehicle
Before you step foot in the dealership, research the make, model, and options you want on your car. You should also compare prices from multiple dealerships and research the fair market value by using sources like Edmunds, Kelly Blue Book, and the National Automobile Dealers Association (NADA). This will give you an idea of the average price for a similar make, model, and year.
If you are going to go with dealership financing, negotiate the price of the vehicle separately from the loan terms and interest rate. By splitting the transaction into two, you will have more leverage to negotiate each aspect of the deal and maximize your savings. After all, getting a better price on your new car means you will need to borrow less and can make smaller monthly loan payments.
4. Consider a Shorter Loan Term
A shorter-term car loan can have several benefits. First, you will pay less interest over the life of the loan. Secondly, you will pay off the car loan faster, which means you will own the car outright sooner. Lastly, you will have a lower monthly payment as compared to a longer-term loan, making it easier to budget for car expenses.
However, keep in mind that car loans with shorter terms may also come with higher monthly payments. If you like the idea of a car loan with shorter terms but can't afford a high monthly payment, ask the lender if there are prepayment penalties. If you don't have prepayment penalties, you can put any extra money you have into your monthly payments and pay off your car loan sooner.
5. Qualify for Low-Interest Rates
Qualifying for low-interest rates will save you money over the life of the car loan. To increase your chances of getting a low rate, you can take the following steps: check your credit score and report ahead of time, shop around for rates from multiple lenders; make a large down payment; and negotiate the car loan terms. The most important thing is to be prepared and do your research to increase your chances of getting a low-interest rate on your car loan.
6. Make a Larger Down Payment
When you make a bigger down payment on a car loan, you reduce the amount you need to borrow from the get-go. A smaller car loan means lower monthly payments and even a better overall interest rate since you are borrowing less money and paying interest on a smaller car loan amount.
A bigger down payment may also demonstrate to the lender that you are a responsible borrower and could increase your chances of getting approved for a loan or receiving a lower interest rate. Additionally, a larger down payment can also help you build equity in your vehicle more quickly.
7. Read the Fine Print
As with any contract, you should always be sure you understand all the terms and conditions before you sign. When reviewing the fine print of a car loan, look for the annual percentage rate (APR), the length of the loan, and how much your monthly payments will be. Don't forget about sales tax and any government incentives you may be eligible for!
Be aware of fees and penalties and consider how each can impact your situation. For example, if your loan terms do not allow prepayment without a hefty fee, it may cost you more to pay off the loan early. Make sure to understand if the interest rate is fixed or variable and what happens if you miss a payment. Special attention should be paid to the loan terms on late payments, as well as any other terms and conditions that you should be mindful of in the future.
8. Consider a Used Car
When considering whether to buy a new or used vehicle, a used car can be a more cost-effective option since it will cost you less to finance and have lower insurance premiums. A used car can be a better value as it has already gone through the initial period of rapid depreciation.
Additionally, a used car may come with a lower price tag, making it easier to finance with a lower down payment or even paying the car's out-the-door price upfront with cash. Purchasing a used car doesn't automatically mean high miles and dated styles; many people car shopping are surprised to learn that the make and models from the previous year are available for affordable prices and with low miles.
9. Be Aware of the "Upside Down"
While every car loan term is different, it's important to avoid putting yourself into a situation where you owe more on the loan than your vehicle is worth. Usually called "negative equity" or being "upside down," this can happen when a person takes out a loan to purchase a car, but the value of the car decreases faster than the amount they have paid off on the loan.
Should someone with negative equity need to trade or sell their car, they may find that they owe more on the loan than the car is worth—so they will have to pay the difference out of pocket. Negative equity can be a burden for people trying to purchase a new car or refinance their existing loan, as it can make it difficult to secure a new loan with favorable terms.
10. Gap Insurance
In certain situations, gap insurance (also called "loan/lease gap coverage") can give you peace of mind if you are concerned about your loan being "upside down." Gap insurance is a type of car insurance that pays off the balance of your loan if your car is totaled or stolen and you owe more than the car's depreciated value. Gap insurance is only available to the person who holds the original car loan or lease on a new car.
If you made a small down payment, lease your car, or have a vehicle that depreciates quickly, gap insurance can be a good investment. Depending on where you buy car insurance, gap insurance is usually an affordable add-on that ensures you aren't stuck paying the remaining loan balance on a vehicle you can no longer drive.
How Does Your Credit Score Impact Your Car Loan?
An individual's credit score is a significant factor in determining the interest rates for car loans. A higher credit score suggests to lenders that you are a lower-risk borrower, and therefore they are more likely to offer you lower interest rates. On the other hand, a lower credit score may result in higher interest rates, as the lender considers you a higher-risk borrower.
It's important to check your credit score and report before applying for car loans, so you have a better understanding of what interest rate you may qualify for. By improving your credit score, you may be able to secure a lower interest rate and, ultimately, save money on the loan term of your new car.
Getting a Car Loan With Less Than Perfect Credit
Getting an auto loan with poor credit is possible, but you should expect the interest rates and loan terms to be less favorable. You may have to pay higher interest rates or make a bigger down payment to compensate for the increased risk to the lender.
Additionally, some lenders may have minimum credit score requirements that you need to meet to be eligible for a loan. It's still possible to find lenders that specialize in helping people with bad credit obtain auto loans but make sure to do your research and compare offers from different lenders to ensure you get the best deal possible.
Can I Get a Car Loan With No Credit History?
Some lenders may offer loans to individuals with no credit history, but the interest rates may be higher due to the higher risk. In this case, a co-signer with established credit may help to secure a loan with better terms.
It is also possible to build credit by taking out a secured credit card or becoming an authorized user on someone else's credit card and making regular, on-time payments. Establishing a good payment history can improve your credit score and increase your chances of getting a car loan with better terms in the future.
Whether you are a first-time car buyer or want to add a second car to your household, buying a new car is a big decision. If you are looking for the best financing for a new car, contact the professionals at Landmark Dodge Chrysler Jeep Ram at 816-836-0100 for a competitive quote today!