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How to Finance a Car

September 14, 2012
You're ready to buy a new car, but like most of us, you can't afford to simply plunk down five figures in cash. You're going to need financing. There's nothing wrong with borrowing money to buy a car. It's accepted practice, and it may even be profitable, if having the car now will open up more financial opportunities for you or save you transportation costs, or if you have more lucrative investment opportunities for your money.

How to Finance a Car

If you watch television car commercials, you might notice that they make it look easy to finance a car. Car companies are constantly offering deals with no money down or short term zero percent financing. You just walk in, find the car you like, and let the dealership financing expert work out the terms with you, right? In fact, if you negotiate your car financing through a dealership, you could find yourself paying a lot more than you should for your car. You need to know what the different financing options are.

Dealership Financing Pitfalls

If you walk into a dealership looking for a car loan, the dealer will do everything they can to make getting that loan easy for you. As with most things, especially things involving the buying and selling of cars, if it seems to be too good to be true, it almost always is. While your dealer will go through the motions and tell you that they are giving you the best terms that you qualify for, they may neglect to tell you that those terms also include a dealer markup. In addition, opting for dealer financing rather than bank financing for your auto loan may hurt you in negotiations. You should always be able to negotiate for a lower price than advertised for a new automobile. However, if you are using dealer financing, the dealer may shift the negotiations and frame them in terms of your payments rather than the total price of the car. Through creative financing, the dealer may make it appear that you have negotiated a favorable deal, when in fact you are paying more than you should. By structuring your loan so that you have lower initial payments, your dealer can make it look like you are getting a bargain when you are actually getting taken for a ride. Keep in mind that a car loan should not be a long term loan like a mortgage. A car is a depreciating asset, and you don't want to be on the hook for more than five years on a car loan.

Bank Financing

On the other hand, there are great advantages to securing your car loan through a bank. Your bank will determine your loan amount and monthly payments based on your credit score, without tossing in a dealer markup and hopefully without any hidden fees. If you have a good relationship with your bank, you may be able to negotiate more favorable loan terms than you would with a car dealer who doesn't know you and is only trying to make as much money as possible on a sale. Also, when you come into the car dealership armed with a bank loan, the issue of dealership financing is off the table and you can focus on getting the best deal on your new car.

Bank Financing vs. Dealer Financing

So, is there ever a good time to opt for dealer financing? If you go into a situation with your eyes wide open, and you know the financing will be to your advantage, go for it. For example, if you are being offered zero percent financing for a limited amount of time, but you know you will be able to discharge or transfer the loan before or shortly after that time expires, it may be to your benefit to opt for the dealer financing. If you've already calculated what a bank loan will cost you, you are welcome to go to the dealer and see if they can do any better, but you must be prepared for dealer tricks, such as hidden fees and loan restructuring. If you do decide that dealer financing is right for you for any reason, be sure that when you are negotiating the price of the car, you are actually negotiating the complete price of the car. Once that number is established, then you can talk about the loan structure and payments.

Other Options

Instead of financing to buy a new car, you may opt to lease or lease to own your car. Leasing to own is rarely a preferable option to securing a loan and buying a car outright, as you will be making considerable payments each month without earning any equity. However, just leasing rather than buying may be better suited to you, as a car is a depreciating asset and lease payments tend to be smaller than loan payments. If you are the type of person who wishes to have a new car every few years and it is financially feasible for you to do so, you may prefer to lease rather than buy a new car.

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