Get the Best Interest Rate
To get the best possible interest rate on a car loan, it's important to understand two things: the current marketplace for interest rates, including different lender options and financing offers; and your personal financing situation and its possible limitations, described fully in "Understand Your Finances."
Several primary factors determine your interest rate:
- Your lender. Unless you borrow money privately, you're going to be working with a bank, a credit union or an automaker's financing arm. There are various pros and cons to each scenario.
- The car you're buying. Are you buying a new car? A used car? A very used car? New car rates are oftentimes the lowest.
- Loan term length. When automakers first introduced 0 percent financing to keep cars selling after the Sept. 11 terrorist attacks, they were only offered on two- and three-year loans. Now, many automakers are offering 0 percent financing on five-year loans. But in general, longer loans have higher interest rates.
- Your credit rating. Borrowers with better credit get lower rates. Jack Gillis, public affairs director for the Consumer Federation of America, estimates that only 15 percent of car buyers qualify for 0 percent offers from automakers. He also reminds that these loans are designed to sell otherwise unpopular cars.
Car buyers borrow money from three primary lending sources: banks, credit unions and the automakers themselves. Loans from any of these sources may come through the dealer, who often serves as the middleman and takes his cut in the process.
Car dealer loans aren't automatically more expensive, however. In fact, dealers provide the only way to get specialized low rates from automakers. "How can you beat 0 percent?" asks Daniel Ray, editor in chief of Bankrate.com.
"When a [car] dealer arranges financing, it earns some type of compensation, which can sometimes be passed on to the buyer," says Fritz Elmendorf, vice president of communications for the Consumer Bankers Association. This may be in the form of a lower price or a lower interest rate.
Car dealers borrow money at wholesale interest rates, which they then mark up and pass on to you. Because the dealer's rate is lower, the rate you get may be no higher than one you arrange yourself.
Elmendorf agrees but says there's a caveat. "Consumers can get very competitive rates at the dealer, but [they] need to educate themselves to make sure that happens," he says.
CNW Marketing Research data shows that credit unions, another good lending option, account for only 11.7 percent of loan financing. According to Datatrac, a market research firm specializing in the financial services industry, credit union rates in June 2008 were an average of 1.41 points lower than bank rates on 48-month new-car loans and 1.8 percent lower on 48-month used-car loans.
|The Credit Union Option|
|While credit unions provide less than 20 percent of total auto loans, they often offer good rates for consumers. Below are year-end interest rates offered for 48-months new or used auto loans.|
|Credit Union Rate||Bank Rate|
*2008 data through June
Like credit unions, bank-lending options are numerous. Both will also you refinance if that becomes necessary. For a comparison of bank and credit union rates, check the websites of Bank Rate Monitor, E-Loan, LendingTree or the Credit Union National Association.
New or Used?
In general, new-car loan rates are better than used-car rates. In August 2008, Bankrate.com recorded an average interest rate of 6.72 percent for 36-month new-car loans, while the 36-month used-car rate was 7.1 percent.
Usually, only new cars qualify for 0 percent financing, though some automakers occasionally push certified pre-owned stock with 0 percent offers. In general, the older the car, the higher the rate.
According to Power Information Network, an affiliate of J.D. Power and Associates, the average term for a new-car loan is nearly 64 months. This leaves consumers vulnerable to owing more on a loan than their car is worth, warns Gillis.
"Sign up for the shortest term you can afford," Gillis says. "If you know what your credit score is and the interest rate you qualify for from an outside lender, it makes it difficult for an auto dealer to sign you up for a higher rate."
In other words, shop for interest rates before you shop for a car.