Choosing an auto-financing plan may not be as fun as selecting the color, interior or snazzy features of your dream vehicle, but the wrong plan can burden you with unnecessary debt and challenge your financial health. Take the time to understand auto financing and choose the plan that best fits your needs. Before you sit down with your car dealer or banker, ask yourself these five questions.
Before you hit the dealership, make sure you are doing it for the right reasons. Are you looking for a more reliable car, recently got a raise and want to upgrade, or need to safely transport a growing family? Go for it! If you are simply trying to escape growing maintenance costs on an older vehicle or save money at the pump by buying a more fuel-efficient car, do the math first. Your annual costs will likely go up if you get a new car, even if you save money on maintenance or gas. It never hurts to run the numbers to make sure you are making the best choice for you (and your monthly budget). If you're unsure, read our take on when to buy a new car.
The most common ways to pay for a car are leasing or financing. Other methods include taking out a home equity loan or line of credit, or paying cash. If you don’t want to keep the car for longer than a few years, leasing may be your best option. Leased cars are returned to the dealer after the contract duration has ended, and you can lease a newer model, or a different type of car entirely. Keep in mind: Once your contract is up, the car goes back, at which point you will need to lease or buy a new car (i.e. more payments).
If you intend to keep the car for many years, financing may be a better choice. Your monthly payments will likely be higher than a leased vehicle, but once you've paid off the car, you will have zero monthly payments. Keep in mind: You will still need to account for the cost of insurance and maintenance, the latter of which might be more expensive on an older vehicle.
Before you start to look at vehicles, decide how much you want to pay out-of-pocket each month for a car payment, insurance, gas and maintenance. Newer cars often come with higher insurance rates and annual registration fees (depending on your state). Bigger cars or trucks might require more time at the pump and more expensive oil changes. In some cases, foreign-made cars can have higher maintenance costs. It all adds up, so do the math before you go to the dealership to avoid making an impulse purchase that becomes a strain on your finances.
A favorable financing plan often comes down to what is best for your financial situation. Lenders consider your credit history when offering you a loan, so if your credit score is low, your options may be limited. But there are other factors involved. Longer loan terms tend to be accompanied by higher interest rates; consider whether smaller monthly payments outweigh the potential for greater accrued interest.
Research interest rates and what different vehicles typically go for based on their make, model and age. And look into different dealers in your area — some may offer incentives in the hopes of lowering their inventories. Just remember: You don't have to automatically take what the dealership offers for financing. You have options.
Financing incentive packages, such as rebates or reduced interest rates, may be a good option for you. Most incentive packages are spelled out rather clearly, but you still need to fully understand the terms and rates attached to them. Many times, these packages are restricted to buyers with the best credit histories. Most packages also have specific start-to-end dates, which means that something that’s available on your first visit may not apply a month later.
If you are considering trading in your car at some point in the future, remember that the value of a car depreciates, or reduces with time. Calculating depreciation rates can be tricky, as they vary according to several factors, including type of car, geographic location and even the appraiser. Still, it is important to estimate a depreciation rate for the car you are considering, as it may affect the length and terms you agree to in your financing plan.