If you’re trying to buy a new or used vehicle, you may want to finance it instead of paying the full price upfront. It can be confusing to know how your financial information affects your loan details. Lenders use credit scores, or FICO scores, to determine what kind of car loan they can give you.
Credit scores are numbers based on credit scoring models that auto lenders use during the financing process. This number helps them assess your financial situation and determine how to structure your auto loan. Your FICO score can vary depending on various factors.
A bad credit score can affect auto loans. It can increase your interest rates and make the loan more expensive. Having a lower credit score can also make it more difficult to secure financing.
Compare Auto Loans
Credit scores are often big indicators of what kind of car loan you can secure. It can be helpful to better understand what a credit score is and what score you need to get a car loan. Though having a lower credit score can make it more difficult to find the auto loan that works for you, you do have options.
There are steps you can take to improve your borrowing experience. There are also steps you can take to improve your credit score prior to financing a vehicle if you have the time. So what credit score do you need for a car loan? Here’s everything you need to know about how your credit score plays into auto lending.
How Do Lenders Use Credit Scores?
Lenders use your credit score as one tool to determine your credit risk. The score helps them learn more about your financial situation and whether you’re likely to default on the car loan. Credit bureaus use information about your current credit accounts and credit card accounts to generate your credit score.
Credit scores are numbers between 300 and 850 that represent your credit profile. Though your credit score is an important part of the lending process, it isn’t all the lender considers. For example, they may also consider your FICO auto score, which is a number focused on your auto loan risk.
Minimum Credit Score for Buying a Car
The minimum credit scores that are best for purchasing a vehicle can vary depending on the lender you choose. There’s no universal minimum credit score. Each financial institution has different qualifications for minimum credit scores when offering auto loans. A new lender may consider your debt-to-income ratio.
The credit union you bank with may consider how long you’ve been a member. When purchasing a car, the minimum credit score requirement may be around 500. Those with average credit scores lower than 500 can still get financing, but they may have higher rates.
Most used auto loans go to borrowers with minimum credit scores of at least 675. For new auto loans, most borrowers have scores of around 730. The minimum credit score needed for a new car may be around 600, but those with excellent credit often get lower rates and lower monthly payments.
Improving Your Credit Can Lower Costs
Lower credit scores may result in less-than-favorable loan terms for the car you want to buy. Having a car loan with a high interest rate can make it more difficult to pay it off. If you’re already struggling with low credit, adding a car loan with high rates may not be helpful.
If you can, consider postponing your car purchase. This can give you more time to improve your credit score. Postponing your purchase can also help you time the market and buy when dealerships have high inventory.
A car loan with high interest rates can make a big difference in your monthly payment. Taking some time to improve your credit can also help you save money in the long term. Lower rates can reduce the total cost of the vehicle by thousands of dollars.
How to Improve Your Credit before Buying
If you can, take time to improve your credit score before purchasing a new vehicle. Even improving your credit score by 50 to 100 points can help to improve your lending options. These are some steps you can take to improve your FICO score before purchasing a car.
Assess Your Report
To improve your credit score, start by assessing your credit report and disputing errors. Your report is the document that contains all your credit information, and sometimes major credit bureaus can make mistakes. They may add the wrong information, which can lower your score, so it’s important to dispute any errors you find when assessing your report. You can go to AnnualCreditReport.com for a free annual credit report from each of the three credit reporting agencies: Equifax, Experian, and TransUnion.
Fix Your Credit Mix
Credit mix refers to the different types of credit you have. If your report isn’t diverse enough, it can lower your score. Consider taking out different types of credit, like personal loans, to improve your credit mix.
Pay Your Bills on Time
Focus on paying all your bills on time to get a good credit score. Missed payments can lower your score, so one way you can help to improve your score is by making on-time payments. Consider creating a reminder system or setting your payments to automatically come out so you don’t forget.
Increase Your Credit Limits
Consider calling your current lenders and asking them to increase your limits. The three major credit bureaus consider what percentage of credit you’re using as part of your score calculation. This means increasing your credit limits can lower that percentage even if you don’t pay your balances down, which can help to improve your credit score.
Lower Your Balances
Finally, one of the best things you can do to improve your credit is to pay down your balances. Having high balances on your credit accounts can lower your score. The goal is to have your total credit utilization down under 30 percent, as this can greatly help to improve credit scores. Consider taking out a personal loan to reduce your credit card utilization.
How to Purchase a Car with Bad Credit
Cars are essential for many people when it comes to getting to work, transporting kids, and getting basic life essentials. It’s understandable that you may need a vehicle if your current vehicle stops working, even if your FICO credit score may increase the interest rates.
For example, leasing a used vehicle may be a better option, as it may give you more time to improve your low credit score. Raising your credit score or FICO auto score may help you lower your rates. According to an automotive finance market report from Experian, a car buyer with a credit score between 501 and 600 may receive an interest rate as high as 17.78 percent.
An average interest rate for an auto loan may be around 5 percent, and the difference between these two interest rates can mean thousands of dollars over the life of the loan. Here’s how to buy a car with poor credit.
Save for a Down Payment
Having money for a down payment can make the financing process simpler, as the lender takes on less risk when they don’t give you a loan for the full value of the vehicle. Some lenders may offer you lower rates if they see that you have the money for a down payment. If you have poor credit, some lenders may require that you have a down payment before they’ll offer you an auto loan.
Consider Your Loan Details
Determine the conditions of the loan before agreeing to one to ensure you’re protecting yourself financially. For example, some lenders may offer you car loans with long terms, but this can mean you spend far more in interest over the course of the loan. Make a list of the conditions for the auto loan you want, including its interest rate and duration.
Set a Loan Budget
Also consider what you can afford in a car, as it can be tempting to spend a little more to get something nicer. Set a budget for your car shopping and be sure not to take out a loan any higher than the price of the vehicle or a monthly payment amount more that you can afford. After determining the car loan rates you want, you can begin contacting financial institutions to learn more about how credit scores affect their car loans.
Where to Get an Auto Loan
One common mistake people make when getting an auto loan with poor credit is only contacting one lender to learn about their options. Speaking with multiple lenders can help you get the car loan that offers you the best car loan rates.
When you visit a car dealership to purchase a car, they can use their connections to many financing institutions to help you find a lender. Some dealerships even have experts who work with buyers with low credit.
There are many online lenders who specialize in auto loans for those with low credit. You can apply for prequalification with these lenders to learn about the conditions for the car loans you can get.
Credit Unions or Banks
Consider making an appointment with the lending department at your current financial institution to learn more about the car loans they can offer you. Credit unions may consider your relationship with the organization and help you get a loan.
This kind of car dealership may be the last option for those wanting a car. Buy-here, pay-here dealerships often offer interest rates that are much higher and aren’t usually the best option. However, if you need a car, have low or no credit history and have been declined by the other lending options, this might be your only choice.
Frequently Asked Car Loan Questions
Learning more about how credit scores affect car buying can help you navigate the process. These are the answers to some commonly asked questions about car buying.
What Factors Determine My Credit Score?
Major credit bureaus are companies that use popular credit scoring models to generate credit scores. These are some factors organizations may consider when determining your FICO score:
- Length of credit history
- Current revolving balances
- Monthly payment history
What If I Have No Credit? Can I Buy a Car?
You can buy a car if you have no credit score. One way to purchase a car with no FICO score is to avoid financing the purchase, and instead, use money you have saved. Of course, this isn’t always an option for buyers, and there are ways to get financing for a car if you don’t have a credit history.
Lenders prefer buyers with a strong credit and payment history. This can make your options limited when it comes to the loans you can get. There are steps you can take to get a car loan if you have no credit. You can also bring evidence of a consistent income when speaking with the lender.
Do Lenders Change Interests Rates Based on the Car?
Lenders may change interest rates based on the car you buy. The biggest indicator of interest rates is the car’s age. A new car loan may have higher interest rates than a car loan.
Lenders aren’t likely to change the interest rate based on the make and model of the vehicle itself. Be sure to speak with the lending institution to learn more about lending options. Each bank and credit union can vary in how they form their loan details according to the car.
Will Using a Cosigner Improve My Loan?
Using a cosigner can improve your car loan. A cosigner is someone who takes some responsibility for your loan by signing their name to it. Asking someone you trust to cosign on your loan can help you improve the terms of your loan. Consider asking those with higher credit scores to help reduce your lending risk. Having a cosigner can lower your rates. A good cosigner can convince lenders to offer you a loan.
Jim Slavik is a financial services expert with 30 years of strategic and operational experience including leading underwriting, loan administration, customer service and collections. He has held C-suite credit operations roles for Fortune 100 and private equity companies for credit cards, personal loans, lease-to-own, auto loans, mortgages, and insurance for prime and sub-prime borrowers.
Currently Mr. Slavik is an independent financial services consultant for private equity firms and a contributor for expert networks such as GLG, Guidepoint, and Level company amongst others.