Car shoppers often spend hours mulling over vehicle types, models, trims, and even colors (that's the fun part, after all). Unfortunately, only a fraction of these buyers put as much thought into the decision of auto financing. Most go into the dealership without doing much auto loan research which leads to higher interest rates, undesirable loan terms, or even loan rejection. The two main routes for getting a car loan are: directly through a bank or through the dealership where you'll purchase the vehicle. We'll discuss the pros and cons of each option and give you 3 tips for making the right choice.
Auto Financing Through a Bank
Going through a bank or credit union when financing a vehicle will take some prep work upfront, but it can pay off with substantial savings over the lifetime of the car loan. You'll want to approach one or more banks prior to going to the dealership to get pre-approved for your auto loan. Preapproval means that the bank will give you a loan amount and interest rate to purchase a new or used car and you can bring that offer with you to the dealership.
The key benefit of taking this route is that you give yourself the opportunity to compare loan offers from multiple banks and also compare the bank's rates to what is offered at the F&I office at the dealership. This route allows you to take your time and shop around for the lowest APR or the best loan terms.
There is a good chance you'll find a better interest rate at a bank compared to the dealership because banks do not have a markup for interest rates. Some dealerships will charge you a higher rate than the lender offers and take a cut as commission. You'll improve your odds of getting favorable loan terms and interest rates if you have an existing relationship with the bank or credit union, and some credit unions are more flexible about lending to car shoppers with compromised credit.
While there aren't many risks to applying for auto loan pre-approval from a bank, it does have some disadvantages. The dealership's F&I office acts as the middleman to secure the car loan, but when you go through a bank you will be responsible for contacting the financing institutions yourself and then evaluating the offers. This requires more time and effort and may not be the best option when you need to purchase a vehicle quickly. Another consideration is that auto financing through a bank won't allow you to take advantage of low APR promotions offered to dealerships directly by the automaker.
Auto Financing Through a Dealership
Getting an auto loan at the dealership is a popular route among shoppers who want to save time or assume that the F&I office is the only way to secure financing. In this case, after you choose your vehicle and finalize the price with the salesperson, the dealership acts as a broker and reaches out to several lending institutions on your behalf. The finance manager presents you with the offers and allows you to select the best one. Another type of dealer financing is called "buy-here-pay-here" which is often marketed as "no credit check financing." These dealerships will sell and finance the vehicles for shoppers with bad credit and will sometimes require payments to be made in person.
For most car buyers with good credit, getting an auto loan from the F&I office yields favorable APR rates and even special automaker promotions for lower interest rates. It's a one-stop shopping experience that is relatively quick, hassle-free, and doesn't require any "homework" beforehand. Also, knowing that the dealership may be taking a cut of the interest rates you pay, there may be some room for negotiating a lower rate.
For car buyers with compromised credit, the dealership is usually not the best starting point for securing an auto loan. Taking this approach can result in auto loan rejection or very high interest rates that can put an additional strain on finances. There is also less flexibility for the type of vehicle that can be purchased since you're limited to the inventory available at that dealership. With a bank loan, you can purchase an older used vehicle, go to a local non-franchised dealership, or buy from a private seller. Buy-here-pay-here auto loans are often risky with very high interest rates and restrictive payment rules.
Tips to Find the Best Car Loan
The best auto financing route will largely depend on personal factors such as the type of vehicle (new vs. used), whether it's from a private seller or franchised dealership, and the credit score of the buyer. By doing some research, you can improve your odds of securing the best possible auto loan rate and terms for your needs.
1. Expand Your Options
Before heading to the dealership, apply for auto loan pre-approval from several banks and lending institutions. Evaluate the offers and compare them to the car loan rates you receive at the dealership.
2. Prepare for Your Purchase
For the best odds of low-interest rates and favorable loan terms, improve your credit score as much as possible prior to your purchase and save up for a down payment of at least 20% for a new vehicle and at least 10% for used.
3. Take Extra Caution with Compromised Credit
Car shoppers with bad credit should avoid starting at the F&I office to secure a car loan, and should take caution with buy-here-pay-here dealerships due to the higher APR rates and risk of repossession. Getting pre-approved through a credit union, local bank, or online lender is the best way to compare and choose the most favorable interest rate.