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Why You Need to Get Your Car Loan BEFORE You Buy a Car

Whenever it comes time to buy a car there’s a strong tendency to go with the one stop shopping dealerships offer. But take advantage of that perceived convenience, and you may very well pay far more for the car than you should. Dealerships hawk ridiculously low interest rates on their financing, so low that it often looks like the preverbial no-brainer to just go with what ever their offering. The only alternative is to get your car loan before you buy a car.

Why not just rely on apparently low dealer financing, and save the hassle of applying through a bank or credit union?

You may not qualify for the dealers best financing package

The “come on”, a.k.a, “bait and switch”—organizations who are involved in sales are famous for blasting the promise of their best deal to an anxious world. How many times have you gone into a store or lender lured by an advertised low price, only to walk out having to pay more?

Why You Need to Get Your Car Loan BEFORE You Buy a Car
Why You Need to Get Your Car Loan BEFORE You Buy a Car
The best price advertised is the one available to the most qualified customers; exactly who those customers are is up to the dealership. It could be only for people with credit scores above 750, or only for the first ten people who walk in the door on a given day. Rest assured it won’t be across the board.

Low rates and prices serve a vital function for businesses: they get people in the door. It doesn’t matter that the best price isn’t available to all customers, only that all customers think that it is.
By having pre-approved financing in place, you effectively establish a ceiling on the rate you’ll have to pay for your loan, regardless of what the dealer will or won’t give you.

The dealer may not want to give you their best financing

Even though you may be fully qualified for the dealer’s best financing package, you still might not get it.

Financing is a major revenue source in the car business, and they’ll often pad the loan to recapture discounts and concessions given to you on the basic price of the car. If you haven’t lined up your loan in advance, the dealer might even be able to convince you that you aren’t fully qualified for the best terms. After all, they’ll have the loan, what will you have to counter their claim?

Having pre-approved financing will force the dealer to give you a better deal if he wants your business. If it doesn’t, you can move on to the next dealer–preapproved financing in hand.

If there’s a choice between a lower rate and cash back, you can take the cash

Car dealers typically offer you a choice between an impossibly low loan rate and cash back. I saw one this week advertising 1.9% financing or $5000 cash back. Now I have no idea what the rate will be should you decide to take the cash, but I’d bet real money it’ll be substantially higher than 1.9%, and probably higher than what you can get at a bank.

Though the dealer will likely attempt to make the cash back contingent on you taking their over-priced loan, having pre-approved financing through a bank will enable you to leave and take your business elsewhere. Dealers hate to have deals walk out the door, so you if you play hardball, you might walk out with the car, your bank financing and the cash.

It gives you a position of strength before you walk in the door

When you walk into a dealership you’re at an instant disadvantage. Not only do you go weak in the knees over the fleet of new cars on the showroom floor, but there are people moving and speaking quickly about things you barely understand.

If you find a car you really like, the situation quickly becomes even more unbalanced. You’re sitting across a desk from a salesman who, should he hit on a snag with you, can immediately bring in his buddies, the sales manager and the finance guy. Now it’s three on one—no pressure there, huh?

The best counter strategy is to stack the deck in your favor to the greatest degree possible. When you have financing from an outside source, you’re making three critical declarations to the dealer:

  1. I’ve done my homework and I’ve come prepared
  2. Your financing package isn’t the only deal in town
  3. I have options that I’m prepared to exercise

You’re leveling the playing field by forcing the dealership to respect you.

It frees you up to worry about more important concerns

Car dealerships try to make the buying process seem easy, but in a way what’s really happening is that you’re being disarmed. In truth, there are a bunch of sub-transactions going on under the umbrella of the big picture purchase: financing, options, warranties, dealer upgrades (undercoating and other recommended but hardly necessary add-ons).

In order to limit the chaos that’s really taking place, you need to take as many of those sub-transactions out of the equation as possible, and doing it upfront is the best time to make it happen.

By handling the financing outside the purchase, you’re taking a big one out right away, freeing yourself up to have a clearer head about the others. Remember, dealers will often play with the loan terms as a way of forcing you to take options, packages and coverages you don’t want.

 
Apply at your bank or another non-dealer source, and get a pre-approval letter. That letter will improve your bargaining power, and force the dealer to offer better loan terms than the bank if they want your business. That’s a win-win for you.

Have you ever relied on the dealers financing offer and wished you hadn’t later?

( Photo courtesy of Jim Legans, Jr )


13 Responses to Why You Need to Get Your Car Loan BEFORE You Buy a Car

  1. Kevin, I couldn’t help but chime in here. I realize you are probably speaking to those people who are going to go get car debt no matter what, but to those people I have a different message. I hope you don’t mind me sharing my two cents my friend. :)

    Here’s my advice:
    AVOID going into debt for a car
    AVOID dealerships

    Instead of believing that the only way you will have a car is to go into debt to get it, try looking around for a cheaper more affordable car on eBay, craigslist, or in local classifieds. Buying a car, and going into debt to do so, is really a bad financial decision since cars are considered a depreciating asset.

    Furthermore, getting any car from a dealer who is paid a commission, is almost always going to cost you money. The only way this would not be the case, is if you walked into the dealership with a wad of cash screaming I want a car TODAY! Haha!

    If you don’t have any savings to buy a car with cash then perhaps you should reconsider your financial priorities and get an emergency fund to cover said purchases. Being a slave sucks, especially when the thing you become a slave for loses value!

    My two cents… :D

  2. Brad – You’re preaching to the choir with me! I completely agree with your thoughts. However, as many people do take financing on cars, and rates are now at historic lows, the temptation is great to take the plunge. So, to put it another way, if you have to take financing to purchase a car, please consider the advice in the original post :-)

  3. Yeah I pretty much figured that’s what you were aiming at. There will always be the people who will not listen to advice on not taking out a loan on a car, so I completely understand your focus on this post. In a way you are throwing even those people a life raft instead of just letting them sink. I get it. The Enemy of Debt in me had to play devil’s advocate. :D

    I hope that was okay. I knew you weren’t the car loan kind of guy! :)

  4. Brad – You’re totally correct, I’m not a car loan guy. We have two cars, both free and clear. For those who aren’t familiar with Brad and his blog, he is the ENEMY of Debt–as in all debt. Check it out at EnemyOfDebt!

  5. I agree that the best way to buy a car is slightly used with cash. But if you are going for a loan, this is the best way to do it. You will have a lot more leverage if you are not depending on the dealer to broker a loan on your behalf!

  6. advice is sound but misguided. If it takes me approximately 3 years paying 300 a month to save up for a car .. then what am i supposed to do for those 3 years while saving up and how am i even supposed to get to work to earn money.

    A loan is smart but only if you can be responsible and ensure you will pay your loans, and buy something within your means.

  7. Khaleef – It’s all about leveling the playing field. And really we have to do that before going to a dealer since the entire operation is set up to catch you off guard and remove any defenses.

    Zoidberg – I see your point, but I think what Brad is going for is to rearrange your finances to be saving all the time so you won’t need to borrow to buy a car. Adding to that, buying a used car that is within the amount of the savings you’ve accumulated. Borrowing is in the truest sense, buying what we cannot afford.

  8. I absolutely agree that bringing in outside financing is the way to go. One small caveat….don’t mention it to the dealer until after you’ve settled on the price of the car. You’ll lose a little leverage. If they think they might make money off you with financing, they might be more willing to wiggle on price. So get your outside financing, but don’t bring up until you get to the Finance Office.

  9. CNC – Excellent point. Let them make all kinds of assumptions about what you’ll do, then pull a surprise at the 11th hour. That’s also a stellar way to throw them off balance at a crucial point in the negotiations, which can only help you make your best deal. The deaterships are the ones who throw the surprises, so turning the tables will be… revolutionary!

  10. I am glad I read this as I am about to have to purchase a car. I just don’t want my credit run at a bunch of different lenders. Plus how does it work getting pre-approved upfront if the lender does not know if it is used or new and for what term?

  11. Hi Ryan–I think that’s the main reason to get your approval before you even shop. It removes all of the open questions and frees you to deal with the car dealer from a position of strength. The last thing you want is to walk in the door to work with a dealer who has both the car AND the loan.

  12. I wish I read this before I got totally raped by these people. Sometimes you lose, sometimes you learn. Next time, I’ll google it first

  13. Hi Chris–Sorry to hear about your situation. I think that when we do get taken it’s usually because we make the mistake of thinking that the dealer is out for our best interests. But if you think about that assumption it’s a contradiction in terms. If he were looking out for our interests, he’d be shorting himself. But at least you know better now.

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