How To Get A Car Loan With Competitive Rates

Buying a car you can afford is often made possible with auto loans that have much more competitive interest rates than personal loans or credit cards. In fact, 2-year personal loans carry an average interest rate of that is nearly twice as much as 4-year auto loans according to the Federal Reserve.

Understanding how to get an auto loan and how to offer a favorable credit history to lenders can help you get the best deal possible before choosing your next car. 

You should do some financial preparation before you start applying for auto loans to ensure you get the best deal possible. 

Check Your Credit Report

Your credit score and report helps determine how much you can borrow and at what rates. Lenders weigh parts of your report differently, with most auto lenders emphasizing your history of paying auto loans. You even have a specific Auto FICO® Score that lenders will look at to determine how likely you are to pay back the loan.

Your credit report can give you an idea of your credit score so you know the range of interest rates you’ll be offered. A higher credit score typically means lower interest rates. If you have your report, you can also correct errors, improving your chances of getting a good loan. 

You’re entitled to a free copy of your credit report every 12 months from each major reporting bureau, namely Equifax^®, Experian^TM and TransUnion^®. You can order your report through Annual Credit Report.com.

Set A Budget

It’s always a good idea to get preapproved for an auto loan before you start shopping. Once you have an approved loan amount, you can narrow down your search to fit your budget. Don’t forget to add 10% to any vehicle you’re interested in to account for fees like state taxes, title transfers and financing fees.

For example, an auto loan amount of $20,000 will come with additional fees that become embedded into the monthly payment. The total cost of the loan will be closer to $22,000 or $23,000 with a monthly payment of approximately $375.

From there, you can estimate the additional monthly costs of insurance, registration, gas and other expenses into that calculation. Just because you’re approved for a loan amount doesn’t mean it’s in your best interest to take it.

Ultimately, you understand your financial health and goals best and will have to determine a budget that won’t create financial anxiety.

Save For A Down Payment

A down payment shows lenders you’re committed to paying back the loan, so they’re more likely to loan you money. Plus, as the vehicle depreciates, it’s ideal that the value of the car is always more than what you owe to prevent the loan from going “upside-down.” A higher down payment can also make you a more appealing borrower even with poor credit.

The larger the down payment, the lower your loan-to-value (LTV) ratio. LTV is the amount of debt you have against the actual value of the car. A favorable loan-to-value ratio usually means a more favorable interest rate. Your monthly payments will also be lower because you’re borrowing less money.

It’s important to explore all your available options before making a loan decision, as each lender type has different advantages.

Car Dealerships 

Loans offered by car dealerships can be very convenient. You can pick a car, get financing and drive away on the same day.

If you’re interested in a loan from a dealer, getting preapproved from another lender can give you peace of mind so you won’t feel pressured to accept their loan offer. You may also get a better interest rate if lenders compete to get your business. 

Banks

Getting a car loan from a bank can be very simple if you already have a good standing relationship with an institution. Call your bank and request to speak with a loan officer to learn which lending options they offer.

Banks usually offer competitive interest rates, especially for people with good credit. However, many banks restrict lending based on the type of car, such as electric cars, high mileage cars, commercial vans or purchases from private sellers. 

Credit Unions

Credit unions often have lower interest rates than banks because they are nonprofit institutions. Their focus on community also means they’re more flexible and may be more willing to work with people who have poor credit. However, you have to be a member to get a loan through a credit union, so you might need to do some research to find one you’re eligible to join.

Online Lenders

Online lenders are the most convenient choice as you can compare offers from multiple lenders without leaving your living room. In fact, you can even buy a car online, finance it and have it delivered to your door.

If you decide to get a loan through an online lender, read reviews from other customers and check for complaints with the Better Business Bureau or the Consumer Financial Protection Bureau. 

Always start your loan search with your own financial institution. They already have a good picture of your financial situation and may give you a preferred rate, especially if you arrange automatic loan payments.

Once you have a grasp on the state of your financial health and the available lender options, you can apply for a car loan.

Step 1: Talk To Your Financial Institution

Start by talking to the financial institutions where you plan to apply for a loan. Banks, credit unions and online lenders will discuss loans before you choose a car. Dealerships will not preapprove you for a loan. They will only finance when you’re making a purchase. 

In the early stages, the lender will likely request the following:      

• Proof of income
• Employment history
• Proof of residence
• Credit history
• Down payment amount

Before finalizing the loan, lenders need vehicle information and proof of insurance, but it’s not required at this early stage. 

Make sure you understand the details of the loan by asking about additional fees, such as early payment fees, how much time you have to use the loan and if any types of car or sellers are excluded.

Step 2: Get Preapproved

Although preapproval doesn’t guarantee you’ll get a loan, it helps with planning and gives you negotiating power at the dealership. Shop around to understand the different rates lenders may offer as they can vary.

Preapproval does require a “hard” credit pull, which can temporarily lower your credit score. However, if all the inquiries are in a 2-week period, the reporting agencies count it as a single inquiry, so it won’t be lowered by every preapproval you obtain. 

There are plenty of aggregate sites like Monevo, LendingTree or myAutoloan that let you apply for preapproval with multiple lenders at once.

Step 3: Compare Lenders

As you view potential loans, compare interest rates and payment terms and conditions first. The lowest monthly payment options may cost more money over time. Make sure you also weigh any prepayment penalties, hidden fees and add-ons you don't need.

If you know the average rates for each credit range, you can compare your offered rate as above or below average. Experian’s State of the Automotive Finance Market Q2 2021 Report lists the average interest rates for new and used cars:

Remember, if you have poor credit, you can take time to improve your credit score or save for a higher down payment to get a more competitive loan offer.

Lenders want to work with borrowers who can make repayments, so good financial health is key to a good rate. Take the time to fix any errors in your credit report and save for a down payment to demonstrate that you have the bandwidth to take on another expense. 

You don’t need to go with the first loan you’re offered. Instead, get preapproved by various lenders to both narrow your search and save money on financing fees.