Before applying for a car loan, it’s important to take some important steps, particularly if you’re considering purchasing a new or used vehicle. Preparing in advance can help you save time and money.
What to do before you apply for an auto loan
To ensure that you get a good deal, it’s important to do some research before heading to a dealership or making an online purchase. This will involve determining your budget, as well as finding out the cost of ownership and anticipated loan rates based on your credit score.
1. Set your budget
To determine how much you can afford, refer to your budget. You can use a car loan calculator to try out different loan amounts and rates and find a monthly payment that works for you. However, wait until you start looking for lenders before finalizing any figures.
Please keep in mind that the cost of maintaining a vehicle goes beyond just the monthly loan payment. It also includes expenses such as gas, insurance, additional features, and any necessary visits to the mechanic. It is recommended by experts that you try to limit your monthly car expenses to no more than 20 percent of your take-home pay.
2. Clean up your credit report
Lenders will primarily base the rates they offer you on your credit score and history. The rates you receive will impact both your monthly expenses and the total cost of your loan.
Lenders have different credit score requirements. Borrowers who have scores above 670 are likely to receive better rates from most lenders. Those whose scores exceed 740 can take advantage of the lowest rates, which may include 0 percent APR promotions provided by the manufacturer or dealership.
Even if you have a low credit score, you can still find a lender. Some lenders are moving away from only looking at credit scores and considering other factors like education or job experience.
It is advisable to enhance your credit score before applying for a loan. You can obtain your credit reports for free from AnnualCreditReport.com and identify the areas that require improvement. Additionally, report any inaccuracies.
Make sure to keep a close eye on your debt-to-income ratio, which measures your monthly expenses against your income. This could help you qualify for a better interest rate.
3. Gather your documents
To apply for a loan, make sure you have your personal and financial information handy. It would be useful to have details about the vehicle you plan to purchase as well.
- Personal information, including your name, date of birth, address, driver’s license, and Social Security number.
- Proof of address, like a bank statement, utility bill, lease agreement, or mortgage statement
- Annual income, employer contact information, and pay stubs.
- Vehicle information, such as the age, make, model, trim, current mileage, and vehicle identification number.
Knowing the vehicle information is not crucial because most lenders provide preapproval with a 30-day window for you to search for a car. Therefore, if you want to determine your affordability before going to the dealership, not having the vehicle information should not affect your chances of getting approved.
4. Shop around
It’s important to shop around and consider all of your options when looking for a loan. This means checking out offers from traditional lenders, credit unions, online lenders, and even dealerships to ensure that you’re getting the best rates and terms available.
By choosing a lender with an interest rate of just 1 or 2 percentage points lower than the others, you could potentially save a significant amount of money on interest payments throughout the duration of your loan.
Suppose you borrow $36,000 for four years. If you get a loan at a 7 percent interest rate, you will pay a total of $5,379 in interest during the four-year period. However, if you are able to obtain a loan at a 5 percent interest rate, the total interest you will pay decreases to $3,795.
Before choosing a lender, make sure to carefully review the fine print and inquire about any additional costs like fees or penalties. Additionally, ask about the eligibility requirements and loan terms provided by the lender. Since there is no one-size-fits-all loan, it’s important to find a loan that meets your unique requirements.
It is possible that the dealership will offer you financing, but their rates may not be the most competitive. Bringing a quote from an outside lender can give you an advantage in negotiating a better rate.
5. Apply for loan preapproval
One of the best ways to have negotiation control is to apply for a preapproved loan. This will provide you with a clear idea of the rates and terms that a particular lender can offer, and it usually remains valid for 30 days.
One great thing is that you don’t need to choose a specific vehicle beforehand. Just decide on the amount and period of time you want, and you can receive several quotes to compare rates. It’s best to do this within a two-week period to avoid hurting your credit score because the FICO scoring model combines multiple inquiries into one during this time.
Next steps
Once you’ve completed tasks such as setting your budget, checking your credit score, collecting required paperwork, and searching for the most favorable vehicle financing options, you can move on to the enjoyable part.
When searching for a car, make sure to find one that fits within your budget. Negotiate with the dealer to get the best price before making a purchase. Also, apply the same level of thoroughness you used when getting your auto loan to ensure you find the perfect ride.