Five Steps to Landing a Good Car Loan

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Financing a new car is not as simple as getting electricity turned on in a new home or apartment. Buying a big-ticket item with a loan for $20,000 and up should prompt some research, yet many consumers who invest immense effort in negotiating the purchase price let their guard down when it comes to the cost of financing. Securing a low-cost car loan doesn’t require an advanced economics degree, but it takes a little more effort than simply accepting whatever the dealer tells you will be your new monthly payment. These five simple steps could save you hundreds or even thousands of dollars.

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1. Determine Where You Fit into the Car-Loan Landscape

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Like it or not, your credit score matters. If you like it, you probably have a high FICO score in the 740-to-850 range. If you don’t like it, it may be because you’re a credit-challenged buyer, with a FICO score below 580. Your credit score will typically determine how much interest you have to pay on a loan. “Higher credit scores translate into lower rates in most financial transactions,” James E. Houston, senior director of auto finance at J.D. Power, told us. “Consumers should understand their credit score before they look for financing, or determine it during the process. Consumers should monitor their credit score and credit report and have mistakes corrected when possible.”

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Make sure your current credit score is based on accurate information. For example, if your credit score has taken a hit because of a debt a reporting agency says you owe that is inaccurate or untrue, you can get it corrected. You can get a free copy of your credit report from each of the three major credit reporting agencies—Equifax, Experian, and TransUnion—once each year at AnnualCreditReport.com. An alternative is creditkarma.com, a service that provides free credit reports on demand and also offers other paid services like credit monitoring. Getting a handle on your credit score is worthwhile, because there are vast differences in the interest rates individuals are offered, based almost entirely on their credit scores.

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2. Choose a Loan Term That Makes Sense

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A few factors determine how much you will end up paying: the interest rate, how much you borrow, and how long it will take you to pay back the loan. The currently most popular loan term is 60 months, or five years, but longer loan terms have become increasingly common. If you want to pay less in interest, you should choose a shorter loan term. For example, if you borrow $25,000 over 36 months at 4.0 percent interest, you will pay almost $1600 less over the course of the loan than if you repaid over 72 months.

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Of course, your monthly payment will be higher for the 36-month loan, so it might seem at first glance to be less advantageous than the longer term, but keep your eye on the big picture. Ask yourself if you’d feel comfortable making a new-car payment on a car that is six years old, because that is what you will be doing at the end of a 72-month loan. “Consumers tend to select longer-term loans for a lower monthly payment or to purchase a more expensive vehicle,” Houston said. “Longer-term loans typically come with a higher rate, hence more interest charges. As long as consumers ask these questions up front and make an educated decision based on their personal needs, then extended-term options can be helpful.” Another way to reduce monthly payments is to borrow less money, perhaps by making a larger down payment if you can swing it.

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3. Shop Around

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Okay, you’ve got the basics—you understand your credit score, you have a handle on current interest rates, and you have decided on a loan term. Now use all that information to shop around for the right car loan. “I recommend that consumers shop for financing options the same as they would for the vehicle they wish to purchase,” Houston said. Visit the configurators on car-company websites and the websites of the dealers that sell the vehicle you’re looking for; also go to the websites of lenders and of third parties that can put you in touch with a variety of lenders.

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There are a lot of places to look, starting with your own bank or credit union. Websites such as Bankrate and LendingTree enable you to get offers from several potential lenders. AutoGravity is a relatively new company with a website and mobile app to let you search for vehicles nearby; it then provides up to four competitive financing offers on the vehicle you choose. Big banks such as Capital One, Chase, Bank of America, Wells Fargo, and Citi are other potential lenders. Each institution has its own policies, so you might find that one offers you significantly better terms than does another. That’s why you shop.

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4. Prequalify for Your Loan

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Once you find an ideal source for the loan, it’s time to “prequalify,” which basically means giving a lender more detailed information so it can approve the loan. Typically you can prequalify for a new-car loan at a specified dollar amount (e.g. $25,000) that will enable you to purchase the new vehicle you have in mind. By getting loan approval before visiting the dealership, you take one worry off your shoulders (Will I qualify for a loan?), and you’ll have a great tool to judge any financing offer you’re presented with at the dealership. And count on it: the dealer will offer to finance the car.

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5. Use What You’ve Learned

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Since you have done your homework and you have a loan in place if you want it, you are in a great position to negotiate. Sweet, sweet leverage. Now get yourself a good deal. Let the dealer know you are prequalified, but tell him or her you are quite willing to see what terms the dealership has to offer. Depending upon the model and trim level, a low- or even zero-percent financing deal might be available through the car manufacturer’s finance arm. If there is an either/or offer of a zero-percent loan or a cash-back promotion, do the math on both to decide which will work better for you. The good news for you is that by prequalifying you will have choices. Be prepared to examine them rationally.

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• How to Negotiate Your Next New-Car Lease Like a Pro
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• Should Your Next New Car Be a Used Car?
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• How to Make a Satisfying Car Purchase in an Hour or Less
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A dealer’s showroom is not the best place to examine complicated financial alternatives and then make good decisions. By performing most of these steps before going to the dealership, you set yourself up for success.

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