If you’re shopping for a car, you’re probably trying to figure out the best way to pay for it. Unless you have tens of thousands of dollars in cash in a bank account, you’ll likely need an auto loan.
But where should you get your loan? Does it make more sense to get a loan from a bank or other lender? Or should you get a car loan at a dealership?
There are benefits to both approaches and there are ways to combine them to get a great deal on your next car loan. Read on to learn how.
Before You Finance a Car
Buying a car can feel like preparing for battle – even at the friendliest car dealerships. To quote “The Art of War”: know your opponent, know yourself and victory is assured. When you’re shopping for a car, the better armed you are with knowledge, the more leverage you’ll have to negotiate a good auto loan.
To help prepare you for “The Art of Car Buying,” we have a few maxims to share. They should help you become a savvy car buyer.
Know your budget
Before you start car shopping, take an honest look at your finances and ask yourself these questions:
- What is the maximum amount I can afford each month?
- What is the maximum loan term I can accept?
- What is the maximum amount I’m willing to spend?
- How much can I afford to put down?
- How much can I expect to get for my trade-in?
Knowing the answers to these questions will make it easier to resist getting lured into buying a car you can’t afford or paying more interest than you need to.
Know your credit
Do you have good credit? While you can get an auto loan with bad credit, the better your credit score, the better terms you’re likely to be offered from a bank or car dealership.
Know your car
Sedan or SUV? Hatchback or hybrid? Great sound or super safe? The more specific you are about the make and model of car you want, the better. Here’s why:
- It makes it easier to comparison shop for a car that fits your needs and your budget.
- The clearer your car-buying goals and expectations are, the easier it will be to resist the temptation to buy a car you can’t afford.
- Showing an auto dealer competitive offers may make them more willing to negotiate on the price.
- The age of the car you buy can affect the interest on your loan. In general, the older the car, the higher the interest rate. Lenders may also set interest rates based on a range of dates.
Know the terms
Understanding the terms of an auto loan can help you to make an informed decision. When reviewing your offer, make sure you understand the:
- Manufacturer’s suggested retail price (MSRP): This is the amount the automaker suggests the dealer charges. The number may be up for negotiation, but the final price will likely be higher because it will include sales tax (if applicable) and other fees.
- Annual percentage rate (APR): It’s the percentage you pay each year to borrow money, including interest and fees. (FYI: You can have two loans with the same interest rate but different APRs because one loan charges more in fees.)
- Loan term: It’s the length of time you have to repay your loan. It’s usually represented in 12-month increments. Terms can last anywhere from 24 months to 84 months. (FYI: Longer terms usually mean lower monthly payments, but you pay more in interest over the loan’s lifespan.)
Know your available lenders
If you decide to get a loan or get preapproved for a loan before you head to a dealership, it’s a good idea to know what options are available to you.
- Commercial banks: Big banks have branches on every street corner and may offer you a good rate if you’re already a customer. Big banks are also less willing to accept risk. They may hesitate before lending money to first-time car buyers with lower range credit scores.
- Online lenders: Online lenders can offer competitive interest rates. You can search for a loan from the comfort of your home, and the approval process is usually pretty fast.
- Credit unions and community banks: Some credit unions allow residents in a specific area to join while others are only open to the employees and family members of a specific company or professional group. Credit unions often offer extremely competitive interest rates to their members and have partnerships with local car dealerships. If you aren’t already a member, you may get a lower interest rate if you join.
Know your timing
Sometimes you need a car fast. For example, if you’re a commuter, you’ll need to get your car replaced quickly. Because you need to move fast, you may not have a lot of time to research car loans.
But, if you have the luxury of time, use it to your advantage. Take your time looking at loans. Try to time your purchase to a dealership’s schedule or think about buying during the cheapest month of the year.
Dealers normally have monthly sales goals they have to meet. If you can time your visit to the end of a month, they may be eager to make a deal so they meet their quota.
You may be able to get a better interest rate if the dealership is offering special financing options for new cars or trying to get rid of their older stock of cars before the new models arrive in October.
Know The Traps
Hopefully, you’ll work with an honest dealer – but, unfortunately, that’s not a guarantee. Read the fine and large print before signing any deals. Make sure you understand the terms of the deals and verify that the terms (think: the annual percentage rate (APR), the loan amount and the length of the loan term) are what you agreed to.
Be on the lookout for changed terms, including steep dealer fees or add-on purchases, such as extended warranties.
Look out for contingency clauses or language that state the deal is contingent on the dealer finding a suitable financing source. These clauses are often traps, forcing buyers to renegotiate for less favorable terms.
If you find yourself in a situation where the dealer determines financing – don’t accept poor terms. Walk away and report it (or any other dishonest behavior) to your state’s attorney general office, the Better Business Bureau® and the Federal Trade Commission.
Auto Loans From Banks or Dealers: What’s the Difference?
Now that you’re ready to buy your car, it’s time to decide whether to look into getting an auto loan from a bank or a dealer.
Here are the key differences:
Getting an auto loan from a bank or other lender
When you get a loan from a bank, credit union or online lender, you can submit your information and get preapproved for an auto loan. All the terms are spelled out, and you can discuss different options with the lender to see which one works best for you.
If you want multiple lender quotes, you’ll need to repeat the preapproval process with each lender you choose.
Lenders can typically approve a loan pretty quickly, but it may not happen the same day you apply.
Getting an auto loan from a dealer
When you get a loan from a dealership, the dealer can search for an auto loan through their network of preferred lenders. If you’re in a hurry, dealers can quickly access multiple loan options and present you with the best option. They may even be able to extend options if you have less-than-perfect credit.
Keep in mind, the loan they offer isn’t always the best one for you. Dealers have different relationships with their lenders. Some dealers get a flat fee for referring clients to a lender while other lenders pay dealers a commission based on a portion of the total interest the lender expects to receive over the life of the loan.
While dealers can find a competitive rate quickly and do want to find you an attractive offer, they can decide whether to provide you with the lowest possible rate or the rate that makes them more money.
Which is better?
If you’ve got time, banks and other lenders can offer lower interest rates and better customer service, but dealers can provide multiple offers and may offer low or 0% promotional financing.
Why Finance a Car Through a Bank?
While financing through a bank or other lender may take a little more time, there are perks beyond competitive interest rates.
Personalized customer service
When you work with a lender, you can take time to explore your options, ask questions and thoroughly review the terms they’re offering.
Less negotiating at the dealership
If you present a dealer with secured financing, it’s one less thing for them to negotiate with you. It also shows dealers you’re serious about buying and having the financial backing to buy the car you want.
Being an established customer can help your approval odds
If you already have an existing loan with the lender, you may be able to get lower interest rates because you’re a vetted and trusted customer.
You can use a bank loan anywhere
While dealer financing is limited to individual dealerships, you can use a bank loan to buy a car from a dealer, a used car lot or in a private sale.
Full control over who the lender is (bank or credit union)
When you get financed through a dealer, typically, you won’t know a lot about the company financing your loan. When you work directly with a lender, you know their reputation and have more control over how your loan is managed.
You can get preapproved
One of the biggest perks of getting an auto loan through a bank or other lender is that you can get preapproved. The lender will give you a preapproval letter that states how much you can borrow and what interest rate they can offer you. The more details you can give a lender about the car you plan to buy, the more detailed the letter can be.
Getting a preapproval letter from a bank gives you more negotiating power because the dealer knows they need to make a better offer or miss out on financing your loan.
When To Consider Financing Through a Dealership
In general, you’ll likely get a better loan if you work with a bank or other lender – but there are some exceptions to the rule.
You’re exclusively looking to buy new
When new cars arrive on a lot, dealers want the inventory to move. To do that, they may offer dealer financing with low interest rates. If you’re looking to buy new, this can be a great deal, just make sure you understand all the details.
First, check to see which loan term qualifies for the low interest rate. If it’s only available for 72 – 84-month loan terms, you may be stuck with a longer loan term, which can cost more in interest.
Sometimes dealers make up for the low interest rate by tacking on extra dealer fees to the price of the car. You may be able to negotiate on some of those fees but that will depend on the dealer and the market.
You qualify for 0% interest
If you have good credit, you may be able to qualify for 0% financing on new and gently used cars. This may mean that you’re buying a car with zero down payment and the dealer is offering 0% interest.
This may sound like a great deal on paper – but check the fine print.
- You may be limited to certain cars that are more expensive.
- The dealer may tack on extra fees to make up for the lost revenue from the interest.
- The 0% interest rate may not be available for the full length of your loan term. That means you’ll start paying interest and having higher payments around the time that you may be thinking about getting your next car.
You’re having trouble qualifying at a bank
If you have less-than-stellar credit, you may not qualify for a loan through a bank or other lender. In that case, dealers may be willing to offer you a “buy here, pay here” (BHPH) car loan or subprime financing. Instead of connecting you with one of their lending partners, the dealership agrees to directly finance the loan.
BHPH loans can help you get a car – but be aware of:
- Higher interest rates: BHPH loans typically have higher interest rates compared to other auto loans.
- Limited selection: Dealers aren’t going to let you drive off the lot with a new car that was BHPH financed. Your choices will likely be limited to select cars the dealer wants off their lot.
- Larger down payment: BHPH financing will probably require a higher down payment.
- Faster repossession: All lenders reserve the right to repossess your car if you fall behind on payments. With BHPH financing, the dealer is likely to repossess your car sooner rather than later. And if the car is still in good condition, they may be able to sell it to someone else.
If you need a car bad, but you’ve got bad credit, BHPH financing can be a solution, but it comes with serious disadvantages and should only be considered as a strategy of last resort.
You’re in the Driver’s Seat
The better prepared you are to buy a car, the better your chances will be of scoring affordable financing. Make yourself an attractive borrower. Make the lender and the dealer want to finance you.
Walking into a dealership with multiple offers from lenders can give you the leverage you need to expertly steer the negotiations and drive off in the right car at the right price with the right terms.