What Is The Smartest Way To Finance A Car?

What Is The Smartest Way To Finance A Car?
What Is The Smartest Way To Finance A Car?
Finance
| Aug 31 2022
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Smart Tips for Financing Your New Car

We all wish we had enough cash to never need a loan. After all, cash is king for a reason. Buying in cash gives us more negotiating power, can keep us from overspending, and frees us from years of car payments.


But for most of us that is impossible, and financing is the only way to go. We must trudge out and find a lender to make our car dreams come true. So what is the smartest way to finance a car?


Here are our top tips for financing a car the smart way.


Understand the importance of your credit score and prepare accordingly.

The car loan APR that you will be offered will be based on a few different factors. Calculating APR takes the following into account:


  • Credit history
  • Principal amount 
  • Length of term
  • Vehicle
  • Down payment
  • Current market rates


The most important factor of all is your credit score. Credit scores are used by lenders to determine the likelihood of an on time repayment. A higher credit score will get you a more favorable car loan APR because they will view you as less of a risk. 


This means it is incredibly important to make sure your credit score is in tip top shape before you even apply for financing. Credit scores are broken down into the following brackets:


  • 800 to 850: Excellent credit
  • 740 to 799: Very good credit
  • 670 to 739: Good credit
  • 580 to 669: Fair credit
  • 300 to 579: Poor credit


A credit score of 750 or higher will put you in the position to get the best rates possible, so aim to get your credit score as high as possible. Having a lower score doesn’t mean it’s impossible to get a good deal, but you will need to shop around and compare a lot more. Preparing ahead of time to get your credit score in good shape is critical when looking for financing. There are a few steps you can take to try to increase your score.


  • Get a copy of your credit report and review it for errors and unrecognized accounts.
  • Pay your bills in full and on time.
  • Pay down your debt, especially on accounts where your credit utilization ratio is high (the amount you owe compared to your credit limit).
  • Avoid closing credit lines, even if you don’t use them.
  • Request higher credit limits on your accounts.
  • Avoid opening new accounts and try to avoid any hard inquiries on your credit.


These steps can help you to get the best car loan APR possible. Good credit scores can help us in many other aspects of our lives too. A good score can get you better rates on car insurance, get you approved for a mortgage or lease, and get utility services set up easier. Life is just easier when you have a higher credit score.



Know what fits into your budget before you go shopping.

You should have a very clear idea of just how much you can afford on car payments before you even step foot into a dealership. The general rule is to pay about 10-15% of your monthly income on car payments, and 20% or less on all transportation costs combined. This would include gas, insurance, and routine maintenance. 


While this is a great guideline, make sure that this actually fits into your budget. Determine all of your monthly income and all of your monthly expenses to see how much you can actually set aside for payments. This will also help you determine how much you should put as a down payment.


Get pre-approved beforehand.

Getting pre-approved ahead of time gives you a lot more negotiating power when you enter the dealership. If you can get approved for a relatively low car low APR before you go shopping, the dealer has a mark that they will try to beat. Try to get a few different pre approvals so that you can compare all terms and get the best loan possible. In addition to the car loan APR you want to compare customer satisfaction ratings. If customers seem unhappy with the lender, it’s probably a sign to look elsewhere for financing. 


Pre approval also gives you a little more peace of mind when looking at cars because you will already have an idea of the interest rate and will have an idea as to what your payments will look like.


Make a 20% down payment.

Down payments are important for two main reasons: they will significantly reduce your monthly payments and they will help prevent your loan from becoming underwater.


A down payment of at least 20% is recommended by most experts. This is money that you will completely avoid paying interest on, so the more you can put down the better off you will be in the long run. And since most depreciation happens in the first year of the car’s life, it will help to curb that amount. Cars typically lose about 20% of their value in the first year.


Being underwater in a car loan means that you owe more on the loan than the car is worth. Let’s say a car costs $25,000 and you put no money down as a down payment. At the end of one year, you most likely have only paid off $3500 or $4000, but your car has already depreciated to $20,000. You already owe more on the car than you would be able to get if you sold it. Being underwater in your loan will make it very difficult for you to ever refinance your loan as well. So it’s best to make a significant down payment and avoid being underwater.


Choose a short loan term.

Short term loans mean that you will pay less interest over the life of the loan. Your monthly payments will be higher as your repayment will not be spread out as much, but you will save a significant amount of money by not paying as much interest. Dealerships like to use “lower car payments” as a selling point when negotiating. They do this for a few reasons:


  • It makes it seem like you are saving money, when in reality you are paying them more money over the life of the loan
  • It makes you feel more comfortable to select a more expensive car
  • It gives them room to try to sell you more add-ons and upgrades


Dealerships may try to convince you that spreading out your payments over a longer period of time is a good idea, when in reality it just gives them more ways to get more money out of you. A term of three years or less is best when looking into financing unless you need extra room in your monthly budget.


Use cash for the taxes and fees.

When you are shopping for a car, it’s easy to only look at the sticker price and try to work the numbers using only the MSRP. But in reality, cars cost much more than just the list price. Sales tax can easily run you a few thousand dollars. Add on the various fees such as the origination fee, dealership fee, and advertising fee and you are talking several thousands of dollars in addition to the cost of the car. But if you use cash for these fees it can help ensure that your financing amount is still reasonable. 



Refinance your loan if the terms aren’t ideal.

It’s not hard to get into a bad situation with a car loan. Maybe the salesman was smooth talking and convinced you that you were getting a good deal, or maybe you were not a particularly desirable candidate for financing when you initially applied. But there’s good news: car refinancing can get you out of a bad car loan.


When you refinance, you want to follow the same smart steps you would take to finance your original loan. Making sure your credit score is in good shape is at the top of the list. You also want to shop around and compare rates and terms. Using a company that specializes in car loan refinance can help you compare and get the best rates possible.


Those are our top tips for financing your car the smart way.


A little preparation can go a long way when looking to get a loan. Making sure your credit score is in order, getting pre-approved for financing, and comparing offers are all great ways to ensure you are getting the best deal possible. Make sure you consider traditional banks, credit unions, and online lenders when researching your options.


If you already made a deal that you are looking to get out of, consider refinancing your car loan with Auto Approve. We have relationships with lenders across the country so you can be sure you will get the most competitive car loan APRs out there. And with a 96% would-recommend rating on LendingTree, you know you are in good hands.


Don’t wait to start saving, get your free quote today!

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