Buying a New Car? Here’s What You Need to Know

1. Check Your Credit Reports and Scores

If you're planning to take out a loan on your new car purchase, your credit scores will have a significant impact on how much you pay each month and over the life of your new loan.

Check your FICO^® Score^☉ to get an idea of where you stand. If your credit score is in great shape, you may have a good chance of getting approved with favorable terms. If, however, your score needs some work, it may be better to hold off on a new car until you can improve your credit.

2. Take Steps to Improve Your Credit

Building your credit can take time, but the potential savings are worth it. Here are some boxes to check before you buy a new car:

• If you have late payments in your credit file, get caught up as quickly as possible.
• If you have high credit card balances, try to pay them down to reduce your credit utilization rate.
• Look for information on your credit report you believe to be in error. While not widespread, incorrect information—such as a late payment a creditor reported in error—can impact your credit. You have the right to dispute incorrect information with the appropriate credit reporting agencies.

3. Know Your Budget

Getting a new car can be an exciting experience, but you may regret it if the monthly payment makes it difficult to work toward other financial goals or even get by.

Take a look at your budget to see how much you can afford to pay each month. Make sure to consider other financial obligations and goals, as well as the discretionary spending that makes up your lifestyle.

Also, look at your savings to see if you can afford a down payment and, if so, how much. A down payment can reduce how much you need to borrow and, therefore, your monthly payment. But if you drain your savings to buy a car, it could leave you financially vulnerable if an emergency occurs and you're broke.

Keep in mind that trading in your current car can help increase your down payment amount—although selling the car to a private buyer could net you a higher sales price than selling it to a dealership.

Once you have an idea of how much you can spend each month on a car loan, you'll have a better idea of what sales price you can afford.

4. Shop Around for Auto Loans

With some car dealers, it's possible to have the finance department arrange financing for you with one of the lenders they work with. However, you may be able to get a better deal if you get an auto loan on your own.

If you go this route, you'll start the process before you ever step foot in the dealership. Banks, credit unions and online lenders can preapprove you for a loan based on several factors, including your credit history, income and expenses, and the vehicle you're looking to buy. You can then take the conditional offer to a dealership.

To improve your chances of getting the lowest interest rate you qualify for, it's best to compare a handful of auto lenders and the rates they offer. Doing this will not only save you time at the dealership, but can also save you money. That's because when a dealer arranges financing through one of its partners, they may offer you a rate that's higher than what their partner quotes, with the difference acting as compensation to the dealer for handling the process.

By bringing your own financing terms to the table, you may be able to negotiate a lower interest rate through the dealer or buy the car with a rate the dealer can't beat.

Just keep in mind as you shop around that it's best to do so quickly. If you apply for multiple car loans within a 14-day period, all the credit inquiries are typically counted as one inquiry when calculating your credit scores. (That period is longer with some credit scoring models, but it's better to be safe than sorry.)

5. Negotiate and Make a Deal

Regardless of where you buy the car, negotiating is an important way to ensure you get the best price available. Once you have a car in mind, look up its value using Kelley Blue Book or NADA.

Then, you'll want to research several local dealerships to see what the car is selling for in your area. If you have a preferred dealership but find a lower sales price somewhere else, you can use that information to negotiate with the dealer you'd rather work with.

Finally, keep in mind that car salespeople often have sales quotas. If you're not in a hurry, consider waiting until the end of the month, quarter or year to head to the dealership. If you encounter a salesperson who hasn't yet met their quota, they may be more willing to cut the sales price to make the sale and reach their goal.

6. Look at the Total Loan Cost

In general, dealers talk in terms of monthly payments and may encourage you to get an auto loan with a longer repayment term to make the payment more affordable. If this happens, it's important to keep an eye on how much you'll end up paying total to avoid overpaying for a car.

As an example, let's say you're purchasing a new car for $25,000 and qualify for a 5% interest rate if you opt for a four-year repayment term. Your monthly payment would be $576, and you'd pay a total of $2,635 in interest.

If you go with a six-year repayment term, however, let's say your interest rate would increase to 6%. In this scenario, your monthly payment would be more affordable at $414, but you'd pay $4,831 in interest over the life of the loan.

To avoid getting stuck with a more expensive loan, make sure to ask the dealer to explain the loan options in terms of total cost instead of just the monthly payment.

7. Understand Potential Credit Impacts

A car loan can be good or bad for your credit, depending on how you handle the monthly payments. Because your payment history is the most important factor in your credit scores, paying on time every month can have a positive influence on your credit scores.

On the flip side, missing a payment by 30 days or more can potentially have a significant negative impact on your credit scores. To ensure that your auto loan only helps your credit scores, consider setting up automatic payments.

Make Sure Buying a New Car Is the Right Choice

The best time to buy a new car is when you need one. But if you don't need one, it may be better to hold off on the purchase. That's especially the case if your credit can use some work or you want to save up more for a bigger down payment.

That said, it's best to avoid waiting until an emergency situation to buy a car. If you don't have a lot of time, you may lose some of your negotiating power, both on the sales price and the terms of the loan, because you're desperate.

Whatever you do, give yourself enough time to research and negotiate your options so you can get the best deal that's available to you. In addition, take steps to prepare your credit for a new auto loan as early as possible. You can monitor your credit for free through Experian for the full picture on where you credit stands now, notifications on changes to your credit and insights on steps you can take to improve your score.