Auto loans: What you need to know

Once they get their licence, the next step for many a young driver is using their savings to buy their first car. This can be a good lesson in managing money and a way to steer clear of debt. But when it comes to buying a new or more expensive vehicle, it’s a good idea to explore other payment options. One such option is an auto loan. Should you consider one for your next vehicle purchase? How can you use it to your advantage? You’ll find these answers and more in this article.

What makes an auto loan different from a personal loan? First of all, unlike personal loans, auto loans are secured, meaning they have collateral.

An auto loan might also have a lower interest rate. This is because, as an installment sale contract, the financial institution retains ownership of the vehicle until the loan is fully paid off. This is why it’s particularly useful to opt for this type of financing when buying a vehicle directly at the point of sale. Additionally, the credit application is made by the borrower.

Also note that auto loans only take effect upon delivery. You only start making monthly payments once the vehicle is in your hands. For a personal loan, you need to apply for one from your financial institution. If approved, the loan will be opened, the money will be transferred to your bank account, and you’ll need to start paying it back.

In certain situations, a personal loan could be more appropriate. Here are two examples:

• Buying from an individual: A personal loan would be more appropriate if you’re buying a vehicle for less than $15,000.
• Buying from a dealer: A personal loan would also be better if you’re buying a vehicle for less than $7,500. Auto loans are generally offered at the dealership for financing over $7,500.

You’ll need to go through your financial institution to get a personal loan based on the amount negotiated.

If you’ve never bought a vehicle from a dealer before, you might be wondering how it all works. You’ll sit down with the sales manager, and then :

1) They’ll ask you how you want to pay for your vehicle. Some people pay in cash, but most of the time, people use a loan that they pay off over a set period of time. They’ll make you an offer. This is when you’ll need to negotiate terms that you’re comfortable with.

2) The sales manager will then contact a financial institution to offer you a loan. You can let them know which financial institution you’d like to do business with.

3) The financial institution will run a credit check. Any lender that checks your credit for a large transaction will need to know your debt level and that you’re able to make payments. The financial institution will have access to this information in your credit report.¹

4) You’ll sign the contract. This step is conditional on your loan application being approved. Before you sign, it’s important to confirm that the information in the agreement is correct, such as the name, address and amount of the loan. This is because some information, such as the borrower’s name, may be difficult to change after the fact.

5) Repayment of the loan begins. Once you’ve signed the contract and have the vehicle in your possession, you’ll start making your payments at the frequency agreed to at the dealership (weekly, every two weeks or monthly).

How can you keep a good credit score? First, you need to know what goes into your credit score: your payment history, your debt level compared to your credit score, credit applications, the types of credit used, credit history and bankruptcy history. With a strategy, you can improve your credit score by taking these variables into account.

1) Don’t apply for credit repeatedly. Shop around with different dealers, but only apply for credit once you’ve made a final decision to buy.

2) Don’t take on more that you can afford. Create a budget for expenses related to your vehicle. Include the loan term, the total cost of the vehicle, your regular payment amount, the interest rate, credit charges (insurance products, lien fees, etc.) and maintenance costs. Buying and financing a vehicle entails various costs. Make sure you take them all into account to fully understand the scale of your financial commitment and to avoid any unpleasant surprises.

3) Don’t accumulate debt. Your debt level isn’t just based on the cumulative amount of your debts. It’s also based on the number of financial commitments you have, because each of them is considered. Make sure you know this before buying on credit. Accumulating credit cards is a common way to fall into this trap.

A poor credit score will inevitably limit your options and may increase the interest rate when you’re getting an auto loan. Building credit takes time and effort.

1) Get help with your first loan. Get someone with a good credit history to co-sign, like your spouse or a family member. This will make it easier to approve your application and help you build your credit score. For your first loan, if you don’t have a co-signer, make sure you have enough cash to put down on the transaction (10% to 20% of the total amount) to help get it approved. Choosing a shorter term can also help.

2) Adopt good payment habits. Of course, that’s easier said than done! It’s all about strategically managing your budget. How many bills do you have to pay? Do you have the financial capacity to pay them each month? Are there any expenses you can cut back on? When you pay a bill to a supplier or company in accordance with the terms you agreed to, it reflects positively on your credit report. On the other hand, if you miss the repayment deadline, it will start to hurt your credit.

Congratulations! You’ve decided to buy a new car! Now, what do you need to keep in mind for your loan application? Make sure you consider the following:

Only make a single loan application. Shop around, compare offers from different dealers, take as many test drives as you like. You want to feel confident in your purchase. But remember to submit only one credit application, only after you’ve made your final choice. Applying for credit at more than one dealership can affect your score. Even if you get approved, merely applying can bring your score down.

Calculate the total amount you’ll need to pay. Monthly payments for a 7-year term will be lower than for a 5-year term, but at the end of the day, you’ll end up paying more when you take interest into account. To make an informed decision, you need to calculate the total amount you’ll pay based on your term, including interest.

Opt for payment terms you’re comfortable with. When you’re at the transaction stage, you can choose a payment interval (for example, every week, every two weeks or every month). Keep your budget in mind, and remember that you can’t always predict everything. Paying your loan off as soon as possible might be tempting, but making sure you can do so comfortably is a win-win. You’ll have the flexibility to save up, reach your goals and cover unexpected expenses.

Now you have more information about auto financing! All that’s left is to apply what you’ve learned so you can buy your next vehicle with peace of mind.

¹ https://www.educaloi.qc.ca/en/capsules/credit-reports