There are many reasons for purchasing a vehicle
. Perhaps your old car is starting to cost you more in repairs than it’s worth. Maybe you’d like a vehicle with more up-to-date safety features. Or maybe you’re a new driver and have been saving up for your very first car. Whatever your reason for buying a new car, being familiar with how auto financing
works can be helpful before you start car shopping.
Here are 4 tips to help make financing a car as easy as possible:
- Calculate how much car you can realistically afford.
Don’t wait until you have purchased a car to factor your monthly payments into your budget. If you don’t already have a budget for your finances, start by creating one to determine how much wiggle room you have for an auto loan payment.
It is recommended that your debt payments not exceed 36% of your gross income. To understand the maximum amount you should be paying towards debt each month, multiply your gross monthly income by 0.36. Then, to see how much of a monthly car payment you could potentially afford, add up all of your existing monthly debt obligations, such as your mortgage, student loans, credit card payments, and child support. Subtract this total from the maximum debt amount you calculated earlier. Whatever amount is left after subtracting your existing debt total will give you a general idea of how much you can reasonably afford to spend on a monthly car payment.
For example, if your gross monthly income is $4,000, your monthly debt payments should be no more than $1,440 ($4,000 x 0.36). If your existing debt payments total $1,000 per month, your new car payment should be no more than $440 per month ($1,440 - $1,000).
Remember though that the 36% rule is simply a guideline. Ultimately, before taking on a car loan you should ensure that it can comfortably fit into your budget, and that you’ll still have enough money left over each month for your non-debt related expenses, such as utilities, groceries, rent, and entertainment. You should also factor the following car-related expenses into your monthly budget predictions:
- Ensure you have enough money for a down payment.
Most lenders require a minimum down payment when taking out a car loan, but you are free to make as large of a down payment as you would like. On top of lowering your monthly payment, a larger down payment can also help to:
If you don’t currently have enough money saved up for a down payment, you may consider delaying your car purchase until you’ve built up enough savings.
- Lower your interest rate
- Lower your loan-to-value ratio
- Give you more wiggle room in case of a financial emergency
- Improve your chance of approval if you have no credit or poor credit
- Know your credit score, and improve it if necessary.
Your credit score will help determine whether you will qualify for a car loan, and what rate you will receive. Being aware of what your credit score currently is can give you an idea of whether you will qualify and receive favorable terms, or if you should work on getting your score up. There are many online resources you can use to check your credit score for free. MyFICO also provides an online FICO score estimator based on a short survey. Keep in mind that your credit report does not include your actual credit score.
Credit scores range from 300 to 850, with higher numbers representing a better credit history. Lenders typically associate higher credit scores with a lower risk that the borrower will default on the loan. For this reason, lenders will often offer lower interest rates to borrowers with high credit scores. Most lenders consider a credit score above 720 to be “excellent” and anything from 690 to 719 to be “good”.
If your credit score is not where you would like it to be, consider working on increasing your score before taking out a car loan. Taking the time to improve your score could save you significant money in the long run if it allows you to secure a lower interest rate on your loan. If waiting isn’t an option because you need a vehicle right away, keep in mind that you can potentially refinance your car loan down the road, after your credit has improved.
- Get pre-approved, and shop around for the best rates.
Car dealerships typically have their own financing programs and will try to convince buyers to apply for a loan directly through them. However, this is rarely in the best interest of the consumer, since dealers typically charge higher interest rates than banks and credit unions.
If you already have an established relationship with a local bank, inquire about its interest rates and repayment terms for auto loans. Some banks may offer deals to existing customers. Shopping around and comparing rates with other loan providers is also a good idea, as it can help to ensure you get the best possible deal.
Once you have found a lender that you are comfortable with, ask for a loan pre-approval so you know the exact amount you qualify for before you start car shopping. You should aim to find your new car within two weeks of getting the pre-approval so you don’t have to go through the process a second time.
Being aware of what’s involved with taking out a car loan can help you remain level-headed throughout the process. Going into car shopping with a solid idea of what you can afford will not only help you during the often-dreaded dealer negotiation process, but it will help to ensure that your car purchase comfortably fits into your budget so you can ultimately reach your future financial goals.
If you are looking to purchase a vehicle in MA or RI and are interested in starting the auto financing process, apply now
with BankFive or contact us