10 Things you Need to Know Before Getting an Auto Loan
Whether you are financing a brand-new vehicle or used, it is important to take into account all of the aspects outlined within your loan agreement before signing on the dotted line. An auto loan is a significant long-term financial commitment, and understanding the key aspects of auto loans is essential to make an informed decision.
Here's what you need to know before getting an auto loan:
1. Budgeting is Essential:
Before you even start shopping for your next car , it is important to establish a baseline budget. Calculate your monthly expenses to determine how much you can comfortably afford for monthly loan payments. Do not forget to include car-related costs such as registration, insurance, maintenance, gas, and other costs that may be applicable in your state such as inspections and road tax. Do not try to overextend yourself. Personal finance advisors generally agree that you should try to keep your car payment under 15% of your monthly take-home pay.
2. What is the price range of the car you want to buy:
It is vital to determine the average price of the car you may be interested in purchasing. Spend some time doing some basic online research. This can help you determine not only the vehicle's fair price but it can also help you determine if the vehicle you want fits into your monthly allocated car budget. Do not forget to factor in vehicle reliability statistics, especially when buying preowned as it may affect your vehicle maintenance budget. ConsumerReports is a good source for this information.
3. Your Credit Score Matters:
Your credit score plays a crucial role in determining the interest rate and terms of your auto loan. Lenders use your credit score to assess your creditworthiness. A higher credit score generally qualifies you for better loan terms, including lower interest rates. Prior to applying for a loan, check your credit report for errors and work on improving your credit score if needed. A variance of just a few points in your credit score can potentially save you hundreds, if not thousands of dollars on your auto loan. Spending some time getting your credit in order is well worth the effort.
4. Understand Interest Rates and Terms:
Vehicle loan interest rates can significantly impact the total cost of your loan as well as your monthly payment. As a rule of thumb, it is best to obtain a loan with a fixed interest rate as it will remain constant throughout the loan term, making it easier to budget. Variable rates can change over time, potentially increasing your monthly payments. Auto loans typically come with term lengths ranging from 36 to 72 months or longer. While longer loan terms result in lower monthly payments, they also mean you'll pay more in interest over time. Shorter loan terms may have higher monthly payments but can save you money in interest. Choose a term that aligns with your budget and financial goals.
5. Shop Around for the Best Deal:
You do not have to settle on the loan terms and interest rates offered by any car dealer. It is not uncommon for the dealer to add additional fees/points to the loan as a form of additional revenue from the car deal. It is always best to shop around for the best rates. Compare interest rates and loan terms from multiple lenders, such as banks and credit unions. Look for the loan with the lowest interest rate and the most favorable terms. This can save you a considerable amount of money over the life of the car loan. Consider getting preapproved for an auto loan before car shopping. Preapproval gives you a clear budget and allows you to negotiate with dealerships as a cash buyer, potentially securing a better deal.
6. Down Payments Matter:
Having already calculated your monthly payment budget, you must also calculate the amount you will need for a down payment in order to reach your target monthly loan amount. Making a substantial down payment can reduce the amount you need to finance and lower your monthly payments. In many cases, a larger down payment may also help you qualify for a lower interest rate. It is advised to put down a minimum of 20% of the vehicle's total purchase price.
7. Consider Sales Tax and Add-Ons:
When finalizing your auto loan, it is common practice to include additional fees such as sales tax. The amount you will pay for sales tax will greatly depend on your state and local jurisdiction. For instance, states like New Hampshire have no sales tax, while others, like California, impose a high sales tax rate of 7.25% with an additional county and city tax added separately. To determine your specific sales tax amount simply, multiply the purchase price by your state's applicable sales tax percentage. Additionally, don't forget to factor in your local sales tax rate by multiplying it with the purchase price to ascertain your total sales tax liability. As some additional costs such as state tax and registration fees are unavoidable, be cautious of dealer add-ons like extended warranties, credit insurance, or GAP insurance. These extras can significantly increase the overall cost of your loan. Carefully consider whether you need these add-ons before including them in your loan.
8. Do you have a car you want to trade in?
Many dealers offer the option to trade in your current vehicle as a part of your transaction when purchasing a new one. This process involves deducting the appraised value of your old car from the listed price of your new one, commonly referred to as a trade-in. You can choose to apply this trade-in value as your down payment or combine it with your existing down payment to decrease the amount you need to finance. It's important to note that if you owe more on your current car than its appraised value, trading it in might actually increase the overall loan amount and subsequently your monthly payments. If you choose to trade in your vehicle just keep in mind that car dealerships are businesses and like any business, they aim to make a profit. When they purchase a used car as a trade-in, they intend to resell it at a higher price. To ensure they can make a profit on the resale they have to buy your car at a price that allows for potential repairs, reconditioning, and a reasonable profit margin. For the maximum value from your old car, opting for a private sale is usually the better choice.
9. Always Read the Fine Print:
Before signing any loan agreement carefully read and understand the terms and conditions. Pay attention to the annual percentage rate (APR), loan fees, prepayment penalties, and any other terms that could affect your loan.
10. Know Your Rights and Responsibilities:
Getting an auto loan is a significant financial decision. Know your rights as a borrower and your responsibilities under the loan agreement. Understand the consequences of missing payments, defaulting on the loan, or refinancing.