You walk tall into the car dealership — you know the car you want and you know how much you want to pay. You got this.
Right up until it’s time to talk financing.
Suddenly, you’re at the mercy of a dealership and its finance manager. They pressure you into accepting a package with a double-digit interest rate, which you’re only too ready to do after losing hours of your life to car shopping and haggling.
That’s kind of what the dealership is depending on, according to Jenn Jones, the auto writer for LendingTree.com and a former finance manager. Through finder’s fees and their add-ons, dealerships typically profit more from locking you into a higher rate auto loan than from selling you the car, she noted.
But what if you had your own number before you even stepped in the dealership?
An auto loan preapproval can put you in the driver’s seat — figuratively and literally.
By talking to lenders before you start shopping, you’ll not only how much car you can afford, which gives you negotiating power for the interest rate as well as the length of the loan.
So how do you get one of these magical (OK, they’re not magical) loans? Follow this roadmap to understanding preapproved auto loans, including how to get one and what to do if you’re denied.
Why You Should Get an Auto Loan Preapproval
An auto loan preapproval is a financing offer from a lender that includes the maximum loan amount, APR and terms of the loan. It can give you negotiating power when shopping for a car.
Although experts may advise to save up until you have enough money to pay for a car in cash, putting aside $37,000 (the average price for a new car) is a steep ask, particularly when your need for transportation is urgent.
The alternative for most is a car loan, but that doesn’t necessarily mean it’s more affordable. More than 7 million Americans with auto loans were at least 90 days delinquent at the end of 2018, according to the Federal Reserve — more than a million more than there were at the end of 2010.
Those delinquencies can be traced at least partly to rising interest rates — the total average loan rate for new cars rose past 6% for the first time in 10 years.
And there’s a striking difference between those most and least likely to be able to afford a loan: the average used car loan interest rate is 4.69% for those with the best credit scores (781 to 850), but for subprime scores (501 to 600), that average rate climbs to 16.78%.
To accommodate the higher costs, more buyers are stretching out the costs with longer-term loans — used cars loans average 64.36 months, or over five years, while new car loans average 68.73 months, which means those consumers are still paying for their rides nearly seven years after that new-car smell has faded.
Getting a preapproved auto loan won’t solve all your problems, but it does give you three distinct advantages:
You’ll know how much you can afford. Understanding your limits before you start looking can help you stick to a budget.
You can shop for the best rate. Apply to multiple lenders, then ask the dealer to beat your best preapproved loan offer.
You can hold out for the best car price. Instead of being beholden to the dealerships that offer you financing, negotiate for the best deal you can get on a vehicle.
How much can a preapproved auto loan save you?
Let’s say you need a $20,000 loan to buy a car. The dealership offers you a five-year loan at 9% interest. Your monthly payment will be $415, and you’ll pay $4,910 in interest over the course of the loan. But if you can get a 5% interest rate on that five-year loan, you’ll pay $377 per month and $2,645 in interest — that’s a total savings of $2,265.
Ready to start saving? Buckle up for The Penny Hoarder’s guide to preapproved auto loans.
How to Get a Car Loan Preapproval
If you plan to buy a car within the next 30 days, you should start planning to shop for you auto loan, too.
But before you start asking how much you can get, you should ask yourself how much you can actually afford. Review your monthly budget to determine how much you can contribute to a payment and the size of your down payment.
Next, give yourself time to research cars before you head to a dealership so you can determine what you like and what you can afford.
“You don’t need to know the exact car, but you should know new or used,” Jones said. “Look online about a week before you think about buying one.”
Once you have you have a price in mind, you can start applying for preapproved loans.
When shopping for a car loan, read the terms of the loan carefully — stick to simple interest terms (calculated only on the principal) and avoid prepayment penalties whenever possible.
Jones cautions that you’re shopping for preapproved loans, not not prequalified ones. The difference?
A prequalified offer could change drastically when the lender pulls a hard credit inquiry, “but a preapproval is a hard offer,” she said.
And speaking of the hard credit inquiry, yes, a preapproved loan may affect your credit score temporarily, but if you’re financing a car, that inquiry has to happen at some point in the buying process, whether it’s with the lender or at the dealership.
The first inquiry may drop your credit score temporarily, but applying to multiple sources “has no effect as long as it’s the same type of loan within 14 days,” said Jones, who suggested checking out rates and terms at banks, credit unions and online lenders.
To apply for a preapproved loan, you’ll need personal and financial information, including your date of birth, social security number and employment information. Many lenders let you apply online, and Jones noted, most applicants will receive an offer within 24 hours.
A preapproval letter will include the following information:
The name of the lender.
The maximum amount the lender is willing to finance.
The annual rate, or APR, as either a range or an exact number.
Don’t be lulled into thinking that the loan amount listed should be the price tag on your car, warned Jones, who listed costs like taxes, fees, add-ons and maintenance packages that all need to be covered either by the financing — or you.
Additionally, just because you can get approved for a $50,000 loan doesn’t mean you need to take the full amount — remember to consider what your original budget would allow you to comfortably pay monthly. And don’t forget that those new wheels could change what you pay for your auto insurance.
How to Shop for a Car with a Preapproved Auto Loan
Ready to shop? Then it’s time to practice your poker face.
When you head to the dealership, there’s no need to reveal you have a preapproval letter in your pocket, according to Jones. Instead, work on getting the best price for the vehicle first.
“Don’t mention [the letter] until you’re near end… after you’ve negotiated the car price and trade-in value,” she said.
At that point, let the dealership pull your credit — so long as you are still within that 14-day window of receiving your first auto loan preapproval letter, the dealer’s hard inquiry won’t affect your credit score — then compare the dealer’s rates and terms to your preapproved loan offer.
“If their offer is not good, pull out your letter and say, ‘Can you beat this?’” Jones said.
Don’t mention [the letter] until you’re near end… after you’ve negotiated the car price and trade-in value.
If the dealer makes a better offer than the one you received in the preapproved offer, you can simply accept the dealer’s offer — the preapproved offer expires 30 days after you receive your letter.
What to Do If You Don’t Get Preapproved for a Loan
There are a number of reasons you may not receive preapproval for an auto loan, so calling the lender to ask for specifics about why you were denied can help you understand and prepare for the next time you apply.
“Talk with a lender rep, but don’t be confrontational,” Jones said. “It may be that you need to look for a car that’s $5,000 less, get a cosigner or improve your credit.”
She recommends that two ways to improve your chances of preapproval when your credit is less than stellar is finding a co-signer with good credit or increasing your down payment. If you prefer to improve your own credit score, check out our Penny Hoarder Academy course, Credit Scores 101.
But remember, financing is just one component of buying a car. Each step — from researching to budgeting to negotiating — is important for ensuring your new wheels don’t leave you in a mountain of debt.
“Take every part of the car buying process as separate instead of one whole piece,” she said.
Trust us, your patience will pay off down the road.
Tiffany Wendeln Connors is a staff writer at The Penny Hoarder. Read her bio and other work here, then catch her on Twitter @TiffanyWendeln.