Auto Loan Basics

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Learn the auto loan ropes to get the terms and rates that are right for you

Congratulations! You've found the perfect car. Now you need the funds to buy it and bring it home. If you're like a millions of car buyers today, you'll need an auto loan to do just that. A majority of Americans finance their cars, with hundreds of billions of dollars borrowed each year. In short, auto financing is a huge business, with lots of companies competing for their slice of the auto loan pie. So how do you sort through the maze of lenders, loans and rates to find the financing that's right for you? In this section, we help you learn the auto loan ropes so you can get the terms and rates that are right for you.

Auto Loan Providers

There are a variety of lenders that offer auto loans, including banks, credit unions, financial institutions, manufacturers, even dealers. You can even take out a home equity line of credit (HELOC) or a home equity loan by borrowing against the equity in your house. Finding a lender isn't the hard part — finding the right lender is.

Auto Loans through Banks and Credit Unions

It's a good idea to begin your auto loan research by checking rates and terms at banks and credit unions, since these are the organizations that usually offer the lowest rates. Keep in mind that when it comes to an auto loan, you need to consider all the numbers, including the amount of your down payment, the interest rate and the length of the loan. The longer the loan term, the higher the interest rate will ultimately be, and the longer the amount of time you'll owe more than your car is worth. As a general rule, it's wise avoid loan terms longer than 60 months. It's even wiser to get pre-approved for a loan — before you visit the dealership — to use the best offer you receive as leverage when attempting to negotiate a lower rate with the dealer.

The Good and Bad of Dealer Financing

Dealer financing is convenient, since a majority of the car buying process — from the test drive to the completion of DMV paperwork — is handled there. But convenience comes with a price. Dealers actually make money on financing by tacking onto loans added fees and extra percentage points that, in turn, become the dealer's commission when he sells the loan to another lender. Hence, the higher the additional fees and extra interest, the higher the dealer's profit.

What's more, if you're enticed by low interest or zero interest auto financing specials offered by dealers and manufactures, be careful. Dealers are able to recoup money on low interest rate specials by raising the price of the cars they sell and they can recoup money on low priced cars by charging higher interest rates for financing. Finally, only a small percentage of car buyers actually qualify for zero interest auto loans offered by manufacturers and dealers. Be sure to do the math when choosing between a no interest car loan or a cash rebate. Sometimes taking the cash rebate and then securing a loan with a bank, credit union or financial institution can save you more money in the long run.

When it comes to securing dealer financing, don't sign on the line until you look at the entire picture, including the total price of the car, the interest rate you're quoted, any additional fees that accompany the loan, your down payment and the length of the loan.

Buying Your Car with a Home Equity Loan

If you qualify, there are advantages of using a home equity loan or a home equity line of credit (HELOC) to purchase a car. For starters, home equity loans usually come with lower interest rates than standard auto loans because they're borrowed against the equity in your home as collateral which drives down the interest costs. What's more, you might actually be able to deduct the payments if you itemize them on your federal tax return. Be sure to consult a tax advisor to determine if this is a smart approach for you.

A HELOC usually comes with the lowest rates but it's a riskier proposition. HELOC rates are variable which means you're stuck with a higher monthly payment should interest rates increase. While a HELOC makes sense for loan terms of 36 months or less, financing over 36 months is better suited for fixed rate home equity loans.

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