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How to get a car loan

How to get approved for a car loan in 6 easy steps

Knowing how to get approved for a car loan means that you’ll either enjoy lower monthly payments or a bigger budget to shop for a better car. Read our insightful car loan approval guide that will help you save hundreds if not thousands of dollars on your next auto loan.

Find out why the APR is a better indicator than the interest rate, how to fix your credit score to get access to better car loan terms, what to look out for when reading your car financing contract, and the best practices for car loan approval so you can get the best possible deal every time.

6 steps to get the best car loan terms

Regardless of your current financial situation and of the type of car that you’re looking to buy, if you want to get the best possible terms on your next car loan, make sure to follow these six steps:

Check your credit score and evaluate your credit report

The first step in your car loan application process is to check your credit score and credit report. Your credit report is the raw data that financial institutions use to calculate your credit score. 

There are three major reporting bureaus – Equifax, Experian, and TransUnion, and every 12 months you can get a free copy of your credit report from each at AnnualCreditReport.com. You can also get your credit score for free from your current bank or your credit card issuer. 

Getting access to this information is crucial because both your credit score and your credit report will weigh heavily on whether you’ll get approved for auto financing, at what annual rate, plus the maximum amount you’ll be able to borrow.

Pro tip: every lender has a different process for calculating your credit score based on your credit report. This means that car loan offers from different lenders can vary by quite a bit in terms of APR and the maximum amount that you’re allowed to borrow. Make sure you shop around for the best terms and rates.

Go through your credit report and make sure that it doesn’t contain any errors that could affect your credit score – the most important thing to look for are late payments that in reality were made on time. If you find any discrepancies in your credit report, submit a dispute to correct them. Make sure to do it well ahead of applying for an auto loan since it takes between 30 and 60 days for your credit report to be corrected. 

A popular credit scoring model is the FICO® Auto Score 8 which variates between 250 and 900. Generally speaking, a good credit score is anything above 661. That being said, different lenders use different scoring models and have widely different lending strategies – if banks tend to favor borrowers with great credit scores, dealerships, and even credit unions are far more lenient.

By now you should know your approximate credit score and you should be confident that your credit report contains the correct information, maximizing your score. The next step is to look at what type of lender suits your circumstances and needs best and then search for the average rates that they are known to offer to borrowers with similar credit scores as yours. 

The best annual percentage rates (APRs) are generally reserved for borrowers with a credit score of 661 or higher, but your credit score isn’t the only determining factor on which loan terms you’ll get offered. Generally, though, with a credit score bigger than 661, you can expect an APR lower than 6% (in some cases as low as 4.75%), while a score of less than 600 will get you an APR of 11 to 13%, or even higher.

The differences are enormous so, if you don’t desperately need a car, it pays to delay your application for a car loan for 6 to 12 months, enough time for you to improve your credit score.

Improve your credit score

Here are a few steps that you can take to improve your credit score:

  • Pay all your bills on time 
  • Correct any errors in your credit report
  • Solve any late payments and bring them up to date
  • Lower your credit utilization (or at least don’t add to it)
  • Increase your credit limit (but don’t max out your spending)
  • Ask family or friends to add you as an authorized user on their account (“credit piggybacking”)
  • Pay off all collections accounts

On top of the tips listed above, you can get better terms for a vehicle loan if you can find someone with a great credit score to cosign with you. Although a cosigner will help you get better rates and maybe a higher maximum loan amount, they will also be responsible for repaying the loan in case you default on it.

A bulletproof way to pay less interest is to have a bigger down payment. It might make sense to delay purchasing a car for a few months so that you can save up for a bigger down payment. Even 10 to 20% more can have a big influence on the amount of interest you’ll pay for the entire duration of the loan, especially if your credit is less than ideal and you’ll be given higher interest rates.

Determine how much car you can afford

If you value your financial stability and peace of mind, then the next step of your car loan application process is to determine how much car you can afford.

Car ownership costs go beyond your monthly car loan payments. They also include insurance, gas, and regular maintenance. A simple rule to determine how much car you can afford is the 20/4/20 rule:

  • Save enough money to be able to have at least 20% of the car’s value as down payment
  • Get a loan of no more than 4 years
  • Spend 20% of your monthly income on your car (including repaying the loan, gas, maintenance, and insurance)

Armed with this knowledge and with an estimated APR based on what borrowers with a similar credit score to yours have been offered, you can now get a good sense of what your car loan terms will look like, and you can determine the sort of budget you’ll have to spend on your future car.

Shop around

Getting the best possible terms for your car loan is as simple as shopping around for them. By now you should know your credit score and you should have a good idea about the amount that you can afford to borrow comfortably. All that is left is to look at different lenders and see which can give you the best deal for your unique circumstances.

A great place to start, especially if you have a good credit score, is your bank. They tend to offer great terms for their existing customers and banks a solid starting point to which you can compare all future offers.

If your credit score is under 661, then shopping around for the best deals is that much more important. Some lenders tend to favor borrowers with bad credit, but they also tend to offer them huge interest rates and fees. Look for the best terms, it’s well worth spending one, even two weeks at this stage to get to know as much of the car loan market as possible.

Get preapproved and measure your options

As part of the best practices for car loan approval, you should aim to get preapproved by three lenders in a 14-day window. The time restriction is important because the preapproval process triggers a hard credit pull which will slightly impact your credit score. But there’s also some good news as all modern credit scoring models take rate shopping into account, so all inquiries in a 14-day window will count as a single one, lowering your credit score by just 5 points.

Regardless of your situation and the type of lender you’re looking to get preapproved by, you’ll probably need the following information during your car loan application process:

  • Personal information. Basic info such as your name, address, email address, social security number, and driver’s license.
  • Financial details. Your annual gross income complete with proof that the figure is accurate.
  • Loan details. How much you want to borrow and the period you chose to reimburse the loan.
  • Trade-in details. If applicable, you’ll need to provide your car’s title and registration.

Getting preapproved adds to the steps needed to obtain a car loan, and you don’t actually need to do it to get auto financing, but it offers a few important benefits – you will know exactly what terms to expect from your future auto loan, it will instantly transform you into a cash buyer in the eyes of car dealers everywhere, and you’ll have a powerful negotiation tool if you’ll also want to consider dealership financing.

Getting preapproved for a car loan takes minutes and then you can compare actual offers with each other, instead of estimates.

When evaluating your options, there are a few terms you need to know and pay attention to:

  1. Loan restrictions. Most lenders will have some restrictions their loan applicants have to abide by to get a loan – things such as a time restriction (you generally get 30 days to accept a loan offer), brand restrictions (some lenders don’t offer financing for certain brands), and seller restrictions (you could be obligated to shop through a specific network of dealers and you might not be allowed to buy from private sellers)
  2. Down payment. This is the amount of money you finance directly out of the total price of the car. Ideally, you’d want to put down at least 20% of the car’s value, but the bigger you’re able to make the down payment, the less money you’ll have to borrow, so the lower the total interest will be in the end.
  3. Annual percentage rate (APR). The APR is more important than the interest rate because it also includes the fees charged by your lender. If the interest rate is the cost you pay for borrowing money, the APR is the total cost you pay for the loan. Some lenders might offer you a lower interest rate but with higher associated fees, which will add up to a bigger monthly installment. So, when comparing offers, always look at the APR not just the interest rate.
  4. Taxes. These don’t change with the lender but with your state of residency. The biggest tax to look out for, and include in your budget, is the sales tax which can be as high as 8.25%. Make sure to also see if your car purchase comes with tax-deductible benefits.
  5. Fees. They can include things such as prepayment penalties or destination and documentation fees, maybe even GAP insurance. Since some dealerships charge higher fees than others and your choice of dealers might be restricted by your lender, it’s worth finding out what these fees will look like before you pick your car loan.
  6. Term. Basically, this is the duration of the loan. Terms can range from 24 up to 72 months. The longer you take to repay the loan, the more interest you’ll pay, and the higher APRs you’ll be offered. Terms that come with the best APR and still affordable monthly installments range between 36 and 48 months.
  7. Monthly installment. This is the monthly payment you’ll have to make towards repaying your loan. Installments must be paid by a specific, agreed-upon date, and if you miss one, it can significantly affect your credit score – make sure your monthly payments for your vehicle loan are well within your financial reach.

Find a car

All that’s left now is to find your car. You get between 30 and 60 days max to shop for a car before your preapproval expires.

You already know how much you can afford to spend on your new car and with a preapproval in hand you’ll be seen as a cash buyer and taken seriously by every car dealer out there.

Finalize the deal

Once you have found your new car, you’re now in the final part of your car loan application process, which is to finalize the deal.

Before you sign the car loan contract it is crucial that you read it carefully. You should look out for hidden fees that can inflate the final loaned amount – GAP insurance, add-ons, and unexpected fees are somewhat of a regular occurrence. If everything checks out, you can now sign the loan contract and you’ll have two more steps to complete before you can drive away in your new car: 

  • Provide the lender with proof of insurance and the vehicle’s title
  • Update the vehicle’s registration to your name (dealers will likely do this for you for a small fee)

Congratulations! You can now take possession of your vehicle.

Which are the best lending institutions for car loans?

If you’re shopping for a car loan, there are plenty of lenders to pick from. But, depending on your credit score, your choices might include all or just some of the lending institutions below:

  • Traditional banks. Banks can offer competitive rates, especially for those with good or great credit scores who already have an account opened with them.
  • Credit unions. Because their main purpose is helping their members, rather than turning a big profit, credit unions are another solid option with great rates and terms. They require you to be a member to apply for a loan. But the process of joining might be easier than you think, so it’s well worth checking out the available options in your area and for your profession.
  • Online lenders. A great choice for those with less-than-ideal credit scores, online lenders have a straightforward application process that often takes minutes to complete. Another benefit is that you can check out and apply to multiple online lenders from the comfort of your home.
  • Dealership financing. Dealers can help you finance your car through their network of lenders that can also include automakers directly, which is something called captive financing. The main benefit of opting for a dealership loan is convenience – you walk in and, if your financials are good, you can walk out that same day with a brand-new car, already financed. The problem, though, is that car dealers are known for offering higher APRs to increase their profits. To guard against this, make sure you have done your research beforehand and bring a preapproval with you from another lending institution.

The best lender depends on your unique set of circumstances and needs. When considering which sort of lender to choose, be aware that some restrict your choices by either excluding certain brands and car types or by requiring that you shop through a specific car dealer.

A common practice for lenders is to have strict rules when it comes to:

  • Private sellers. If not excluded completely, most lenders will offer you higher rates if you buy from a private seller instead of a dealership.
  • Second-hand cars. Old cars or cars with very high mileage will rarely qualify for financing and if they do, they will likely increase the APRs you’ll get access to.

Most car shoppers pay a lot of attention to the price of their future car, but almost no attention to the way they will finance that purchase. In doing so, they end up with a final price that can wipe out their savings. Interest can add up quickly, so be sure to follow the six easy steps listed above to get the best car loan terms and save big.

FAQs

What is the difference between interest rates and the APR?

The APR = interest rate + fees associated with the loan. The APR is a more realistic look at what the car loan will actually cost you in the end, it includes the interest rate plus any fees the lender will charge you.

If I get preapproved by a lender, am I obligated to move forward with the same lender?

Absolutely not. If you get preapproved, you generally have 30 days to decide if you want to move forward with the car loan. You are allowed to change your mind at any time, no questions asked. 

What is the best auto loan rate?

Interest rates vary widely, depending on your unique set of financial circumstances – you can be offered a rate anywhere between 4.75% all the way up to 13%. A good credit score (anything above 661) will generally give you access to lower rates.

What credit score is needed to buy a car?

Ideally, you’d want to have a credit score of at least 661. That will give you access to the best APRs and car loan terms. But different lenders have different strategies, and you can get a car loan with lower credit scores – just expect to be offered higher interest rates as your score lowers.

How easy is it to get a car loan?

Very easy. Even the most thorough of lenders will grant you a car loan in a matter of days, if you meet their criteria, of course. Many online lenders and dealerships can offer you a car loan in just a matter of hours if not minutes. But never rush to take out a car loan until you had time to shop around for the best rates.

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