Financing a Used Car

Our final article in this used car buying series is going to address financing a used car.  At this point, you've done your research and found a car that matches your needs and budget.  The car will be inspected by a mechanic you know and trust.  Finally, you should understand what to look for in a warranty, paying close attention to the information on the Buyer's Guide.

Used Car Financing Options

With all of the car research behind you, it's time to figure out how you're going to pay for the used car.  When it comes to used car financing, you have two options.  The first option is to pay for the car in full.  For many of us, this is really not an option.  Even if we could afford to pay for the car in full, we may not want to spend all of our cash at one time.

The second payment option is finance the car's purchase over time.  If you choose this option, then the total cost of ownership associated with purchasing the car increases.  Not only are you paying for the car, you are paying for the interest costs, loan administration, and application fees.  When comparison shopping for a car loan, you can use the Annual Percentage Rate, or APR, to make direct comparisons between lenders.  The lower the APR, the lower is the total cost of the loan.

Affordable Monthly Car Payments

You will be faced with several important decisions when financing a used car.  For example, you are going to balance the size of your monthly car payments with the term, or length, of the loan.  Generally, the financing terms offered on a used car are shorter than those available on a new car.

In fact, you might be looking at only a two or three year financing arrangement for a used car.  Even though the cost of the car is less than a new car, your monthly payments may be almost as high.  If you buy from a used car dealer, then there is a good chance they will offer to help finance the car.

Car Loan Calculators

If you're still wondering how much you can afford to pay each month, then you should take a look at our complete line of online car loan calculators.  There you will find tools that can help you figure out how large a car loan you qualify for or whether or not it's better to lease or buy a car.  We even have a calculator that helps to figure out how fast a car depreciates in value.

Negotiating Monthly Payments

Make sure you understand how much you are going to finance before negotiating for a used car.  Most car dealerships will offer you financing directly, or work with a specific lender.  It's important to shop around to get a better idea what local banks, or other lenders, are willing to offer you before signing any agreement at the car dealership.  You need to have options, and understand what types of loans you can get elsewhere, or you might wind up with a bad deal on your financing.

Credit Problems and Used Car Loans

If you had trouble with creditors in the past, then your credit history or credit score may indicate you are a high credit risk.  If you suspect this may apply to your situation, then you may want to work with a credit repair agency to see if there are any mistakes that can be cleaned up on your credit report.

If you are a credit risk, then you will likely be asked to put a larger down payment on the car.  Your car loan may also carry a higher APR, and this puts you in a risky equity position.  For example, if the car's fair market value falls faster than you are paying-off the loan, then you may have negative equity in the car.  Let's look at an example of how that can happen.

Negative Equity Car Loan Example

Let's say you purchase a used car for $8,000 with 100,000 miles on the engine.  Let's also assume that you've put a down payment of $2,000 on the car, and financed the remaining $6,000 at 10% for three years.  Twelve months later, the car has 120,000 miles on it, and its fair market value is now $4,000.  But the outstanding balance, or loan principal, after only 12 months is $4,200!

This means that if you had to sell the car, or it was totaled in an accident, then you would be paid $4,000 for the car.  Unfortunately, you will have to pay the lender $4,200.  In this example, your equity in the car was a negative $200.  This can and does happen all the time, so it's important to prevent yourself from getting yourself in this situation.  Our article on Gap Insurance tells you how to protect yourself financially if you have negative equity in your car.

Paying Cash for Used Cars

Your last option for financing a used car is to avoid financing the car in the first place. We mentioned this option at the beginning of the article.  Believe it or not, most dealerships are quite happy to take cash for a car.  (We are really talking about a cashier's check, carrying around a large amount of "cash" is a very risky undertaking.)

Advantages of Paying Cash for a Car

If your monthly household budget is already tight, then you really should consider paying cash for the used car; perhaps even purchasing a less expensive car than originally planned.  To many people, the car they drive is a demonstration of their "status," and this sense of pride sometimes accounts for the fact that many people drive around in cars they can barely afford.

Avoid this situation by putting your personal pride behind your family's financial health.  This may change the way some people think of you, but you're the one making the monthly car payments, not them.

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