Where you finance your next car can save you money or cost you money. About 85 percent of new vehicles are paid for with an auto loan, and more than half of used car purchases involve a car loan, according to the credit bureau Experian. Seven out of 10 of those auto loans are made through car dealerships, according to the National Automobile Dealers Association.
When it comes to getting a great deal, are in-house financing dealers your best option, or should you get an auto loan from another source? Read on, and we’ll discuss the pros and cons of the various car loan origination options.
Topics We’ll Cover in This Guide
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An auto loan is a contract in which a lender agrees to finance your new or used vehicle purchase, and you agree to pay them back with a set monthly payment for a certain number of months. The lender retains the title to the car until you pay off the loan and repossess the vehicle if you’re unable to make your payments.
As cars, trucks, and SUVs have gotten more expensive, the amount car buyers are financing is getting larger, and the length of their loans is getting longer. The average new auto loan in the third quarter of 2018 was $30,977, while the average pre-owned car loan was $19,681.
In order to get a car loan, you provide a lender with information about your income, expenses, employment, and credit history. They look at your application and credit score before deciding whether to give you a loan. Your creditworthiness will be used to determine how much they are willing to loan you, the interest rate they will charge, and the length of the loan.
The most critical piece of information lenders consider is your credit score. A three-digit score between 300 and 850 is computed using information about your creditworthiness from the main three credit reporting companies – Experian, Equifax, and TransUnion. If it is close to the top of the range, you’ll have no problem getting a loan at a competitive interest rate. If you have a low credit score, getting money for a new or used car purchase can be more difficult and expensive.
Many credit card companies and websites, such as CreditKarma and WalletHub, can show you your credit score for free. You should be wary of sites that require you to sign up for credit monitoring or other services to see your scores, because there are plenty of legitimate free sites where you can get the information without signing up for a service with a monthly fee.
You’re entitled by law to see your three credit reports (but not score) once each year – directly from the credit bureaus – by visiting annualcreditreport.com. However, using one of the aforementioned services, you can check them more often.
A common car-buying error is to start thinking about financing your vehicle purchase at the end of the buying process, after you've negotiated a price with the dealership. That’s probably the worst time to begin looking at your options.
Instead, you should start considering your loan options the moment you start thinking about buying a car. Understanding your credit options will help you set an affordable budget, determine how large of a down payment you can make, allow you to focus your shopping on vehicles you can afford, and ensure that you’re getting the best financing deal available. The extra time will also allow you to identify any issues or errors in your credit history, while you still have time to correct problems and improve your credit standing.
Before you start visiting car dealerships, you should have a pre-approved loan offer in place from a bank, credit union, or another lender. You may not end up taking advantage of it, but if you don't have one, the dealer will have no incentive to find you a better offer.
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Getting a dealer-arranged auto loan has pluses and minuses. Whether it’s a good deal for you depends on a number of factors, including your creditworthiness and whether there are any incentives from automakers that require you to use their finance companies.
Applying for financing right at the dealer makes car buying quick and easy, as you can get everything (except the right car insurance) in one stop. There’s no visiting several banks, credit unions, or their websites. You just fill out one application, and the dealer takes it from there.
When you take advantage of in-house financing at dealerships, there’s no need to pick up a check from your financial institution; the dealer takes care of all of the funding paperwork, so you don’t have to.
It Is All Bundled Into One Transaction
When you decide to use dealer-assisted financing, they will bundle the purchase price of the car, your monthly payment, and the value of your trade into one neat transaction that’s usually centered on a monthly payment. While many customers appreciate the simplicity that it offers, it can also work against you, as we’ll discuss in a moment.
They Talk to Many Lenders
With dealer financing, you’ll only have to fill out one application, which the dealer can send to multiple lenders. Unless the dealer is financing the deal themselves, they’ll shop your application to banks, credit unions, and, in many cases, the automaker’s affiliated financing company.
They may or may not disclose the third-party lenders they sent your application to. When a lender receives an application from a customer in a dealership, they’ll typically know they are competing with other lenders and have an extra incentive to offer attractive terms to get the car loan.
Going through a dealership is not the only way to get offers from multiple lenders with a single application, however, as we’ll discuss later in this article.
You Can Take Advantage of Automaker Financing Deals
If a vehicle isn't selling as briskly as an automaker expects or there's a new model on the way, they'll frequently offer special incentives to customers and dealers to pick up the sales pace. In many cases, consumers will have to use the automaker's affiliated finance company to take advantage of these cash back and low-interest car deals. Only dealers have access to those companies, so you’ll have to get your loan at the dealership to get them.
It Is All Bundled Into One Transaction
Having the entire car-buying process neatly bundled into one transaction – one that includes the price, down payment, trade-in, and auto loan terms – makes purchasing easy. However, it’s a horrible way to buy a car if you want to get a good deal.
It’s a common dealer trick to keep you focused solely on the monthly payment while they manipulate the trade-in value, vehicle price, and car loan terms. It’s like a shell game, where they move numbers from one box to another to make it appear that you’re getting a great deal. Bundling everything can also lead to confusion, which is beneficial to the dealer who works deals every day, but potentially costly to an inexperienced consumer who has to untangle the numbers.
Smart consumers do everything they can to unbundle the transaction. You can do so by getting pre-approved financing from an outside source, staying focused on the purchase price of the car, and knowing the value of your trade-in. Though it might cost you in extra sales tax on your new car purchase if it has a high value, selling your old car to a private party or another dealership takes it out of the bundled deal.
They Charge a Markup
Car dealers don't typically arrange financing for you out of the kindness of their hearts. In most cases, they make a significant portion of their profit on the sale by marking up the cost of the car loans you are offered. In most states, there is no legal requirement that a dealer discloses the amount of markup or compensation they receive for getting you the loan.
That’s why you always want to try to negotiate a better deal. You’re in a much stronger position to do so if you have a pre-approved offer from another lender.
The Deal May Be Better for Them Than for You
Because of the way dealers are compensated for setting up financing, there’s a built-in incentive for them to offer you the deal that is most profitable for them, rather than most affordable to you. That's yet another reason to have an agreement in place that they have to compete with to get your business.
They May Encourage You to Get in Over Your Head
A car salesperson’s primary job is to get you into a new or used car, not look out for your long-term financial health. Some unscrupulous dealers will do everything they can to get you in a vehicle, even if it means burying you in a car loan that will haunt you for years.
By keeping you focused solely on the monthly car payment, they’ll keep you distracted from a high interest rate, a high purchase price, or the fact that you'll be paying on the loan for seven or eight years. Many experts agree that if you can't make the payments on a five-year car loan, you probably can't afford the vehicle. The longer the car loan you agree to, the longer you'll likely be underwater on the loan, and the higher the likelihood you'll still be making payments when the vehicle is starting to require more costly repairs.
When you borrow from a bank, credit union, or another direct lender, their focus is to put you into a loan that they know you can pay back. That often means a shorter term or less money financed.
It Opens You Up to Yo-Yo Financing
Unless everything is completed for your car financing, including final approval from the lender – in writing – you should never leave the dealership with your new or new-to-you used car. If you do, you can fall prey to issues with what is called spot financing. Many experts go so far as to refer to it as the Yo-Yo Financing Scam.
Here’s how it works: You leave the dealership thinking that the deal you were offered was final and the lender had approved the loan. A few days or weeks later, you get a call from the dealership saying that there’s a problem with the loan and you need to return to sign new loan documents. When you do so, you discover that the new deal is significantly more expensive. At that point, most consumers feel they are trapped – they love their new car, their trade-in is long-gone, and the dealer’s finance manager is putting loads of pressure on them to sign the new documents. Unfortunately, most buyers do just that.
In some cases, your credit truly did not qualify you for the deal you were offered, and the dealer didn’t know that. In others, however, dealers know in advance that you would never qualify for the deal they offered, but they let you drive the car home anyway, knowing that you’re unlikely to walk away from it. Unfortunately, many states favor the dealership over the consumer when this happens. According to the Center for Responsible Lending, consumers who get called back to the dealer end up with an interest rate that’s an average of 5 percent higher than their original deal.
You can avoid yo-yo financing by getting your loan from a bank or credit union that's not affiliated with the dealership, watching the loan documents for the term "conditional sale," and walking away if you see that language. Insist that the dealership completely unwind the transaction, returning your down payment in full and returning the retail value of your trade-in, or the car itself.
If the dealer insists you return with the car, your first stop should be a local community bank or credit union to see if you can qualify for a loan with them. If you can, you can just take a check for the purchase price to the dealership.
Some Dealerships Prey on Consumers With Bad Credit
While many lenders consider buyers with less-than-perfect credit to be risky and will write the loan term to mitigate their risk, there's a class of car dealerships that caters to buyers with poor credit. They’re called Buy Here, Pay Here dealers, and they not only sell you the car, but they finance your purchase, rather than connecting you with an outside lender.
In many cases, they are the dealers of last resort for car buyers who don’t feel they have any other options. Buy Here, Pay Here dealers frequently charge exorbitant interest rates and aggressively pursue repossession if you are even a day late in delivering a payment to the dealership. Some Buy Here, Pay Here dealers install tracking devices on the vehicles they sell or systems that can disable a car when its owner has failed to make a timely payment.
Financing your auto purchase at a bank, credit union, or another lender outside of a dealership can take a bit more work, but the benefits of doing so may outweigh the hassle.
Better Interest Rates
Getting an auto loan directly from a lender eliminates the car dealer, and their markup, from your financing negotiation. A percent or two of interest might not sound like much, but over the course of a car loan, those few bucks per month can add up.
You’ll have to do some shopping, but you’ll frequently find the best car loan rates at smaller banks and credit unions, or with loan specials from larger banks. Credit Unions are member-owned cooperatives that return their profits to members through lower loan rates and higher savings interest rates. Not everyone can join any credit union, but the National Credit Union Administration can help you find one at MyCreditUnion.gov.
Sites such as U.S. News Best Cars partner MyAutoLoan.com can do the searching for you, and come back with multiple offers from a single application.
APR Range: 1.99% - 27%
Loan Term: 24 - 84 months
Loan Range: $8,000 - $100,000
At least 18 years old, resident of the U.S. (except Alaska and Hawaii), with min. income of $1,800/month and min. credit score of 500
Max mileage of 125,000 miles, 10 years old or newer
myAutoloan presents up to four offers from a variety of participating lenders based on your specific loan requirements, offering a wide variety of choice and selections.
APR Range: 3.34% - 17.49% (AutoPay Discount of 0.50% also included)
Loan Term: 24 - 144 months
Loan Range: $5,000 - $100,000
Must have good to excellent credit*
LightStream caters heavily to applicants with very strong credit scores, offering a streamlined application process and a Rate Beat program that guarantees they'll beat any other qualifying offers an applicant receives.LEARN MORE
APR Range: 3.99% - 10.08%
Loan Term: 36 - 72 months
Loan Range: $4,000+
$1,800/month minimum income requirements, resident of the U.S. (except Alaska or Hawaii)
Limited to vehicles available through the Capital One network of dealers
Capital One offers a pre-qualification, which allows you to take your offer to any participating dealer within 30 days.LEARN MORE
APR Range: 4.29% - 24.99%
Loan Term: 48 - 72 months
Loan Range: $4,000+
At least 18 years old
Limited to vehicles available through the Chase network of dealers, no older than 2008
After your application is approved, Chase will send the information to the dealer you choose. The offer is good for 30 days.LEARN MORE
|Bank of America|
APR Range: 3.49+%
Loan Term: 12 - 75 months
Loan Range: $7,500 - $100,000
At least 18 years old (19 in Alabama or Nebraska) U.S. resident
Max mileage of 125,000 miles, 10 years old or newer, valued at $6,000+, plus additional restrictions
Bank of America Preferred Rewards clients can receive an interest rate discount of 0.25-0.50% depending on their tier at the time of applying for an auto loan.LEARN MORE
Disclaimer: All information provided here is based on Annual Percentage Rate estimates from the websites of the individual lenders on 12/18/2018. It is not a binding or guaranteed loan offer. Individual auto loan rates will vary.
Notes: In compiling this data, we used new-car purchase rates for Virginia.
*To meet LightStream's standard for good credit, you must have several years of credit history with a variety of account types, including credit cards, installment debt (vehicle loans), and mortgages. LightStream also prefers to see few, if any, delinquencies and a history of savings, evidenced by things like deposit accounts and manageable revolving credit card debt. You'll also want to provide proof of stable and sufficient income to repay current debt obligations as well as any new loan with LightStream.
When you are already doing business with a financial institution, you’re more likely to qualify for relationship discounts or customer-only promotions. You may also be eligible for discounted auto loan rates if you have your paycheck directly deposited into the same bank or credit union.
There are also personal connections you can create over time with the staff of your financial institution that can make them work harder to get you a great deal when it’s time for a new vehicle.
Many consumers find it helpful to do all of their banking with one institution. That way, if there's ever a problem with a payment making it to your loan, for example, you'll only have to make one phone call, instead of two.
They’re Selling You a Loan, Not a Car
A car salesperson's job is to get you into a used or new car and make you feel good about the deal you got on the vehicle. If they get you a good deal on financing, that's a just a bonus. When you shop at multiple lenders for an auto loan, their primary focus will be to get you the best deal they can so you won't take your business elsewhere.
You can remain laser-focused on the terms of the loan – its annual percentage rate of interest, its length, how much is financed, and any fees you have to pay. You won't have to think about how the deal fits with the rest of the bundle a dealership puts in front of you.
A Direct Lender Can Help You Stay Within Your Budget
A salesperson is likely less concerned with your ability to repay your financing than they are with making a sale. A direct lender, on the other hand, will be more likely to consider your ability to repay the auto loan. A car salesperson trying to hit their monthly sales goal probably doesn’t care if you’re able to make your car payment six months down the road, while a financial institution certainly will.
Some unscrupulous dealers have been caught intentionally altering the information on buyer’s loan applications to get them qualified for loans that would not otherwise be approved. Doing so is a crime.
A direct lender may be less generous with the amount they finance, or offer a shorter loan to help ensure you don't get in over your head. The idea that you don't qualify for credit might be a bitter pill to swallow, but it might keep you from digging yourself so far into debt that you can't get out.
Getting a Loan from a Direct Lender Requires Additional Steps
One of the biggest reasons consumers get their financing from the dealer is that it is easy. It’s true that getting financing directly from a bank, credit union, or other lender takes extra time and hassle. Not only will you have to talk to each institution individually, but you will potentially have to shuttle documents and funds between your lender and the dealer. With dealer financing, there’s no running around.
Banks Are Not Open During All Dealership Hours
Weekends and holidays are popular times to go car shopping, but few lenders operate outside of the traditional nine to five work week. You can't typically run to the bank to pick up a check on a Sunday afternoon. Though some financial institutions are making it easier to get a loan approved on off-hours, needing to find one that allows digital document signing and loan funding outside of regular business hours will limit your loan options.
One Application at a Time
In order to get multiple loan offers from local banks and credit unions, you’ll have to fill out a new loan application at each institution. It can take a lot of time to supply your personal, employment, and credit card history to multiple lenders when each requires a separate form.
Borrowers need to make all of their applications in a short time window, as well, so they’re not seen as multiple inquiries for new credit, which can damage credit scores. If lenders make all of their inquiries within a couple of weeks, you'll generally only be dinged for one "hard pull" credit inquiry on your credit reports.
You Can’t Take Advantage of Automaker Car Deals
Most car manufacturers have their own finance companies or are closely affiliated with third-party lenders for their incentive programs. If you want to take advantage of a zero percent financing deal or another low-interest offer from an automaker, you’ll have to get your auto loan from their affiliated finance company. That can only be done through their franchised new car dealers.
Some cash back offers require you to use the manufacturer’s captive financing company. There’s a way around this limitation on cash back deals, however, if the terms of the loan don’t have a prepayment penalty: You simply take the manufacturer’s financing when you buy the car, and then turn around and refinance at another lender a few days or months down the road.
Today, there’s a third option. Rather than opting for dealership financing or making multiple applications at local banks or credit unions, you can go to a website and fill out one form, which is shared with many lenders. If you qualify for a loan, you’re provided with an offer or offers to consider. When you have a ballpark idea of what you are going to spend on your car, you can use one of these financing clearinghouses early in your shopping process, so you have that all-important loan pre-approval in place before you step foot into an auto dealer. The offers you receive can be from local lenders, large national banks, or online lenders.
U.S. News Best Cars partner MyAutoLoan.com provides up to four offers in minutes once you complete your online application.
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No matter what lender you choose, it is critical to read every loan and sales document before you sign it. Pay particular attention to the sales price, trade-in value, and loan terms to make sure they match the agreement you negotiated. Carefully comb through the paperwork to make sure that no costly add-ons have found their way into the deal.
Never sign a financing, purchase, or registration document that is not complete, or accurate – even if the dealer or lender promises to fix or complete the document later. It is much harder to correct an error on a contract with your signature on it than it is to get it right in the first place. If you are pressured to sign paperwork that is incorrect or incomplete, you should consider it a red flag and politely decline. If the pressure keeps up, be prepared to walk away from the deal.
In order to ensure that all of your payments reach your lender on time, it's a great idea to set up an automatic transfer or bill pay a few days ahead of each month's loan payment due date.
The journey to new car ownership can be complicated, but the experts at U.S. News & World Report can help you at every step along the way.
Our new car rankings and reviews are based on the consensus opinion of America’s top automotive journalists, melded with quantitative data on safety and reliability. Our used car rankings and reviews add information about cost of ownership to the mix, to show you the best pre-owned cars you can buy.
Before you head for the dealership, check out our new car deals and used car deals pages to see the best purchase incentives available from automakers. Taking advantage of a special finance or cash back offer can save you thousands of dollars. Consumers thinking about leasing will want to explore our lease deals page for offers with low monthly payments, small amounts due at signing, or both.
New car purchase or lease customers can save even more when they take advantage of our Best Price Program. We work with local dealers to provide guaranteed savings off MSRP. On average, buyers save more than $3,000 off sticker price when they use the free service.
In addition to savings off MSRP, getting the best interest rate on your car loan can save you thousands. Compare rates from up to four lenders with MyAutoloan to get the best deal.
Our assistance doesn’t end when you get your keys. Visit our auto insurance site to learn about the coverage you need and the discounts you can get.