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Are you ready to start vehicle shopping? Learning how to get an auto loan is a natural place to start. Getting pre-approved for a loan before you head to the car lot can make the entire process less stressful and help you close your deal faster.
Find out how to get approved for an auto loan so that you can shop for a vehicle and simplify the purchasing process.
How to get an auto loan step by step
There are several steps involved in how to get approved for an auto loan.
Step 1: Check your credit score
Auto lenders don’t have fixed credit score thresholds like mortgage companies. However, there are some general guidelines that most lenders follow. With that in mind, you should check your credit score before you apply for an auto loan.
You are eligible to receive one free credit report from each of the big three credit bureaus each year. Request your report to find out what your score is. Review the report to check for errors. Once you know what your score is, it will be easier to set a budget and find lenders that are a good fit.
Step 2: Set your budget
Next, determine how much you can afford to spend on a vehicle. Consider both the monthly payment and the total amount you intend to borrow. While the monthly payment is important, you should also determine how much you will spend over the course of the auto loan, including interest. Kikoff’s calculator can help with this.
Buying a vehicle with a payment that is below your monthly budget can help you save money in interest over the life of the loan. You should also account for other factors, such as maintenance, fuel, and add-ons, such as an extended warranty.
Step 3: Get preapproved
While dealers offer financing options through the manufacturer or via partner financial institutions, you shouldn’t rely solely on their recommendations. Getting preapproved before you show up at the dealership gives you a realistic look at your budget and saves time.
You can still compare the dealer’s options if you would like. However, tell the salesperson that you are preapproved and let them know your budget. That way, you don’t waste time looking at vehicles that are out of your price range.
Step 4: Shop for your vehicle
Once you arrive, tell the salesperson what you are looking for in terms of vehicle style, size, and budget. Compare your options and test drive a few vehicles that meet your needs.
If you prefer a more independent shopping experience, start shopping online first. You can look at individual dealer websites or a broader platform like Car Gurus. There are so many convenient ways to shop these days, which has made finding a vehicle easier than ever.
Step 5: Finalize your loan
After you’ve chosen a vehicle, you will need to finalize the loan. Read the documents carefully. Pay close attention to the following:
- Standard warranty offers
- The term length
- The total amount financed
- The interest rate
- Add-ons, such as an extended warranty
- Gap coverage
Don’t sign anything unless you understand what terms you are agreeing to. That way, you can verify that the monthly payments and overall terms make sense for you.
What is an auto loan?
An auto loan is a secured installment loan used to finance the purchase of a vehicle. The vehicle you buy is both the item being purchased and collateral to secure the loan. If you fail to make payments on the loan, the lender can repossess and resell it to recoup their investment.
The key elements of an auto loan are:
- The loan term (i.e., 60 or 72 months)
- The total loan amount
- The interest rate
- The down payment amount
Auto loans typically allow you to pay them off early without a prepayment penalty. However, you should always verify that there is no prepayment penalty before signing.
Auto loan requirements
If you want to get an auto loan, you’ll need to meet certain requirements.
Credit score
There is no standardized credit score for all auto loans. In general, dealers and lenders expect consumers to have a score of at least 580. However, some lenders may approve you with a score below this threshold.
The higher your credit score, the better terms you’ll qualify for. A lower interest rate and better loan terms could save you thousands of dollars over the life of your loan.
Income and employment
Lenders will also view your income and employment history to gauge your ability to repay the loan.
If you have a good credit score and strong repayment history, lenders may rely on self-reported income and your credit report. However, if you have a lower score or a spotty financial history, you may be required to submit proof of employment and bank statements.
Lenders are primarily concerned with whether you earn a steady paycheck and make enough to repay the loan.
Debt-to-income ratio
Your debt-to-income (DTI) ratio compares how much you make to your recurring debt payments, such as rent, utilities, and credit accounts. There is no set DTI threshold that all lenders use. Each lender sets its own DTI limits based on how much risk it is willing to take on.
Lenders calculate your current DTI and what it will be with the auto payment factored in. If you are trading in a vehicle and your payment will go up, they will calculate the difference.
Down payment
Buying vehicles without a down payment is common. If a lender approves you to borrow a certain amount, you should be able to finalize the loan without putting any money down, provided you stay within those limits. However, if the total cost of buying a vehicle exceeds your pre-approved limit, you’ll have to cover the difference.
Putting money down can also reduce the amount you pay in interest over the life of the loan. You should save some money for a down payment, just in case you need it. If you are able to purchase a vehicle that suits your needs without a down payment, you can always decide to hold onto the money.
Types of auto loans
There are several different types of auto loans available.
New car loans
New car loans tend to be the most flexible, largely because dealers offer rebates or special finance offers to incentivize buyers. If you decide to purchase a new vehicle, you may qualify for:
- 0% or low-interest financing through the dealer
- Thousands of dollars in rebates
- Special trade-in offers
If the vehicle you want to buy isn’t eligible for any special deals, you can always purchase it with your preferred lender instead. You aren’t obligated to use the dealer’s financing company.
The best approach is to get pre-approved before you head to the dealership and then compare your options once you choose a vehicle. If the dealer can beat your pre-approved offer, you can take that deal instead.
Used car loans
When shopping for used vehicles, you typically won’t be eligible for any rebates or special trade-in credits. However, dealers do have certified pre-owned vehicles, which may qualify for warranties at no extra cost.
Additionally, used vehicles have already experienced some depreciation, which means they shouldn’t lose as much value after you buy them compared to a brand-new vehicle.
Older used vehicles can be a very affordable option if you need to keep your costs down. The downside is that there may be limited (or no) warranty options. If you are going to buy a vehicle without a warranty, keep some cash on hand to deal with any surprise repairs that may pop up.
Refinance auto loans
If you have a vehicle you like, but the interest rate is on the high side, you may want to refinance your loan. That’s a great option, especially if your credit score has improved and rates have gotten better. Lowering your interest rate can reduce your monthly payment and create some extra room in your budget.
Refinance auto loans are typically easier to qualify for if you’ve been making payments on time. Other lenders take on refinance opportunities to generate revenue via the interest you pay. Your current lender may even offer an expedited refinance option so that they can keep your business.
Lease buyouts
If you are leasing a vehicle and want to purchase it, you’ll need to apply for a lease buyout. Depending on whether you stayed within the mileage limits imposed by your lease agreement, a buyout could be a good option to purchase a vehicle you are already familiar with.
However, if you went way over the mileage limits, you could owe a lot of money to get out of the lease. You’ll need to weigh your options and determine whether buying out the lease is the best fit for your financial situation.
Dealership financing vs. direct lenders
There are many different ways to finance a vehicle.
Dealership financing
Financing at the dealership is one of the most common options. There are two routes you can go through the dealer. The first involves financing directly with the manufacturer through the dealer.
For example, if you are buying a Ford vehicle, you could finance it with Ford. Financing through the manufacturer could provide you with benefits such as a very low interest rate (if eligible) or extra cash back and incentives toward the vehicle.
Alternatively, you could use one of the dealer’s preferred lenders. This may include local credit unions and larger national banks. While you could have gotten preapproved with one of these lenders before arriving, the dealer may be able to get you a better deal.
Banks and credit unions
If you want to get pre-approved before heading to the dealer, banks or credit unions can be great options. You can compare rates with a few different lenders and get pre-approved with the one that offers you the best deal.
Showing up to the dealer with a pre-approval gives you a clear idea of how much you can borrow, and it can speed up the purchasing process. You can tell the salesperson how much you qualify for and focus on looking at vehicles in that price range.
Online lenders
Online lenders are a relatively new option in the car-buying space. While they have been around for several years, online lenders have become far more common in the last couple of years. The benefits of working with an online lender include a faster pre-approval process and added convenience.
If you are shopping for rates, online lenders may be worth checking out. Several of them partner with major dealerships and car shopping platforms, such as Car Gurus. Others, such as Carvana, offer an all-in-one purchasing experience. You can even arrange to have your vehicle delivered.
Buy here, pay here
Buy here, pay here dealers don’t use traditional financial institutions. This can be a good option if you have poor credit or no credit history. The downside is that your interest rate will be higher (sometimes much higher) compared to a traditional lender.
Some buy here, pay here dealerships also require more frequent payment intervals, such as weekly or bi-weekly.
Unless you don’t have a credit score high enough to qualify for a traditional loan, you should avoid buy here, pay here options. Treat them as a last resort due to the higher interest rates.
How much does an auto loan cost?
The biggest factor influencing the cost of your auto loan is the amount you are borrowing. You also have to consider these variables:
- Interest Rate: Your interest rate is based on your credit score, the loan term, and market conditions
- Loan Term: A longer loan term reduces your monthly payment amount but increases the total interest paid over time
- Fees and Add-Ons: Additional costs, like tax, tag, title, and optional add-ons like an extended warranty, increase your loan amount
You will also need to account for the total cost of ownership, which includes things like insurance and maintenance.
How to get an auto loan with bad or no credit
Here’s how to get approved for an auto loan if your credit score is on the low side.
Work with specialized lenders
Some lenders, such as local credit unions, are more willing to work with individuals who have lower credit scores. Find out your score and request your credit report before shopping for lenders. If you have a good idea of what your score is, you can find lenders that work with borrowers in your score range.
Consider a cosigner
Adding a cosigner can make you a stronger applicant. If your cosigner has a good credit score and strong repayment history, you may qualify for a better interest rate.
However, convincing someone to be your cosigner can be tough, as they are taking responsibility for the loan if you fail to make payments. Make sure you choose someone you trust and follow through on your commitment to make payments on time.
Make a larger down payment
Putting more money down reduces the amount you need to borrow. Imagine that you can only qualify for a loan of $25,000, but vehicles that meet your needs cost around $30,000. In that case, if you have the funds on hand, you could put money down to cover the gap.
Build credit before applying
If your credit score isn’t where you want it to be and you don’t have to buy a vehicle right now, take some time to build your credit first. Making on-time payments is one of the best ways to strengthen your credit score and improve your financial history.
Are you unsure where to start? Platforms like Kikoff allow you to report verified on-time rent and utility payments. Making these payments on time and reporting them to the credit bureaus can do wonders for your score over time.
Conclusion
Are you ready to take control of your financial future and start building credit responsibly? Kikoff offers several tools to jump-start your journey toward better credit, including a free Kikoff credit account, rent reporting, free dispute tools, and more.
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