An auto loan is a secured, long-term financing option that allows consumers to purchase a vehicle and pay for it over time. It is commonly offered by banks, credit unions and online lenders. When shopping for an auto loan, borrowers should consider the key terms of the loan including the interest rate, loan term and fees. Borrowers should also understand their credit score, income and debt-to-income ratio when evaluating different financing options.
Generally, when applying for an auto loan, borrowers will be asked to provide information about their financial situation including their income, which can be verified with a copy of a paycheck or tax return. They may also be required to provide other documentation, such as proof of employment or bank statements. A lender will also evaluate a borrower’s debt-to-income (DTI) ratio, which is the amount of monthly debt payments compared to monthly income. This ratio can be an important factor in determining a borrower’s approval for an Auto Loan, and some lenders may require a DTI ratio that is lower than 50%.
Many major automakers, such as Ford, GM, Toyota and Honda, have an in-house financing arm that offers loans to customers through dealerships. These are called captive finance companies and they account for 44.2 percent of new car sales in the U.S. Dealerships that offer in-house financing often have less stringent credit requirements than direct lenders and can also offer incentives like 0% interest for a certain number of months or cash bonuses. However, these deals are usually reserved for borrowers with excellent credit.
It’s generally a good idea to shop for an auto loan before visiting a specific dealership. By comparing rates online, borrowers can find the best possible financing option for their specific situation. Borrowers can also use prequalification tools to determine their potential lending limits and may be able to shop for an auto loan without having a hard inquiry on their credit report, which can help prevent their credit score from taking a hit when multiple lenders pull it.
While it is important to focus on the sticker price and a down payment when buying a vehicle, it’s equally as important to keep an eye on the total payment, which includes the loan amount plus taxes, title, fees and interest. This number should be a part of every prospective car-buyer’s budget to ensure they can comfortably afford the vehicle and repay their loan.
Investopedia Explains Auto Loan