What Is Financing a Car?

In this article, we’ll define what financing a car means, how it works, the smartest way to go about it, and whether vehicle financing is a good idea. The options for getting financing for a car along with any requirements will also be discussed. We’ve researched and compiled the top auto loan companies so you can compare vehicle financing options should you decide to get one.

If you want to know more about car financing, interest rates, and what to look for when comparing lenders, check out our complete guide to auto loans.

“Financing a car” involves buying a vehicle with a loan rather than paying the full cost upfront. Over an agreed amount of time, you pay back the principal or the value of the car through monthly installments along with any fees and interest. Together the interest and fees you pay when “financing a car” make up the finance charge, which is the cost of taking out the loan.

The amount you pay monthly is determined by the value of your vehicle minus the money you put down, the given APR, and the loan term. Your APR makes up the interest payments and fees and is the main contributing factor to the price of your loan. Primarily your credit score influences the interest rate you get but other factors such as the age of the vehicle also help determine this.

Typically, how car financing works involves going to a dealership, picking the vehicle you want, and applying for a loan through a dealer’s lending network. However, financing a vehicle can also be done online through a large selection of traditional and third-party loan providers. If you are approved, you will be given the terms and conditions of the agreement including any payment information.

When Financing a Car Who Has the Title?

If you are financing a car the lienholder which is the person, dealer, or financial institution you borrow from, holds the title until you pay off the loan. Once the balance has been paid, you will also receive the vehicle’s title document from the lender. You will also be sent a signed lien release form to keep for your records as proof that the title has been transferred. 

Can You Trade in a Financed Car?

When you’re financing a car you can trade it in at any time to a dealer, but you still have to pay off the balance of the loan. Usually, the amount left over is covered by the trade-in value of the vehicle, but this depends on the age of the car and its condition among other factors.

Can I Cancel a Car Finance Agreement?

Once you sign the paperwork you cannot directly cancel an auto loan agreement, but you do have other options. You can choose to replace your agreement with a refinance auto loan through your current lender or a different one for better rates and terms. Trading in your car to pay off the loan can also make sure any obligations in your contract are met, ending your contract.

Getting financing for a car is usually straightforward and can be done through various vehicle dealerships, online lenders, credit unions, and banks. 

Each of these options fits into two different categories which include:

• Dealership Finance: Financing through a dealership involves signing a contract and getting a loan through their network of loan providers. It is often considered the easiest option and can save you money through their manufacturer car-buying programs. However, these often come with varying credit requirements and terms so you may be unable to take advantage.
• Direct Lenders: This form of vehicle financing is done directly through banks, credit unions, and online lenders. Getting offers directly from loan providers allows you to compare offer terms and get preapproved. It can also give you leverage to negotiate when looking for a car at dealerships.

How Long Can You Finance a Car?

How long you can choose to finance a car ranges from 12-94 months depending on whether you are financing a new or used vehicle. However, in most cases, the terms for most purchase loans for vehicles are around 72 months. It is also important to note that some lenders may not offer the longest and shortest-term options in this range. 

Whether you should finance a car or buy a vehicle outright depends primarily on what you can afford and your credit score. Financing a vehicle can allow you to pay for a vehicle that you otherwise could not afford, but could pay more than the value of the car over time due to interest.  However, even if you have the capital to pay for the full value of a vehicle, it may not be the right time and another option could suit you better.

Should I pay Cash for a Car or Finance?

In many cases, you should pay cash for a car up front rather than getting financing through an auto loan. Drivers who cover the complete cost of their vehicles at the start won’t have to pay interest on their purchases, making it cheaper over the long haul. However, if you don’t have the capital, it may be better to finance a car.

Financing a car is popular because it’s not always possible for motorists to cover the full cost of their vehicles immediately. Life without a car can be difficult in certain regions, so auto financing provides a workaround for those who need vehicles for their day-to-day lives.

Financing a car can be a better option than paying cash in these scenarios:

• The interest rates on your existing debt, such as credit cards, are higher than the auto loan rates you qualify for.
• The rates of return on your investments are higher than the auto loan rates you qualify for.

Should I Finance or Lease a Car?

Leasing a car can be an attractive option since it comes with lower monthly payments and you don’t have to worry about depreciation. Getting a car lease can also come with many perks like free routine maintenance. However, financing a car is cheaper in the long run compared to getting a leased vehicle.

You can do anything you want to the vehicle during the course a purchase loan and once it is paid off, you gain ownership of the car. When a car lease ends, you have to return your car and you’ll usually have to pay expensive fees if it is damaged in any way. In the end, it depends on what you can afford, but typically purchasing a vehicle is a better option.

Below are our recommended best steps to take when financing a car:

1. Find Out Your Credit Score

Your credit score offers a glimpse into your creditworthiness, and lenders use it to determine the likelihood that you’ll repay an auto loan. Most lenders use the FICO credit scoring model and check your credit history through the three main credit reporting bureaus: Experian, Equifax, and TransUnion.

You may be able to find out what your FICO score is by asking your credit card issuer, bank, or credit union. Otherwise, you can pay to get your credit score from one of the credit bureaus. Checking your credit score is a soft inquiry, so it won’t negatively impact your credit.

Your credit score will have a significant impact on your interest rate when financing a car. The higher your score, the more likely you’ll be offered lower interest rates on auto loans.

2. Set A Budget

Before financing a car, determine how much money you can afford to spend per month and overall to pay an auto loan off. It can be easy to forget the purchase price of your dream vehicle during the car-buying process, but be realistic about your budget.

Your annual percentage rate (APR), the interest rate on your auto loan plus any fees, will determine how much you pay to finance your car. Your APR depends on factors including your credit history, your loan term, and the amount you borrow. While new vehicles usually cost more than used vehicles, they typically come with lower APRs.

3. Get Together The Required Paperwork

When financing a car there are four main requirements:

• Proof of Identity: You will need to verify your identity with a government-issued ID which can include your passport, driver’s license, and birth certificate.
• Proof of Income: In order to ensure you can make payments on time, documents like recent pay stubs, current bank statements, a recent W-2 form, or other statements. If you are self-employed, the last two years of your tax returns can also be used for proof of income.
• Proof of Insurance: Like all auto loans or vehicle financing ventures you will need proof of the minimum required car insurance in your state. Getting this is typically easy, and you can call your car insurance company to get a binder to show you have the proper coverage.
• Proof of Residence: To show proof of residence, you may provide your driver’s license, utility bill statements, insurance bills, mortgage or lease statements, and bank or credit card statements.

In some situations, you may need additional information such as your social security number or vehicle purchase documents in order to finance a car. If you are financing a used car you’ll need the original title document before you can move forward with an auto loan.

4. Get Rates From Auto Lenders

Lenders may not offer the same APRs and loan terms when you’re financing a car, so compare rates from auto loan providers. There are plenty of vehicle financing options, from dealerships and banks to companies that specialize in auto loans. 

When getting quotes from auto loan providers you must know the differences between being prequalified and preapproved when financing a car. Prequalification offers an estimate of your rate, but because potential lenders only do a soft credit check, the rate could change after you apply for a loan. Preapproval comes after a hard credit check and almost guarantees financing at the terms outlined in the preapproval offer.

Preapproval can lead to a slight decrease in your credit score, but it allows a serious shopper to calculate the monthly car payments for the life of the loan. FICO counts all hard credit checks relating to your car loan as a single inquiry for up to 45 days, so rate shopping won’t impact your credit more than once.

5. Pick The Best Auto Lender For You

Everyone has different needs when it comes to financing a car. While some may avoid auto lenders with higher interest rates, others would be satisfied with any provider that’s willing to finance their vehicle.

When choosing an auto lender, keep the following factors in mind:

• APR: The lower the APR listed in your contract’s disclosures, the less you’ll pay to borrow money.
• Term length: Your loan term can vary considerably in length. Having a long-term loan typically means you’ll pay less per month but more over the full amount of time.
• Down payment: Making a significant down payment can save you money on interest when financing a car. The minimum down payment–if any–is determined by each auto lender. You may be able to use the trade-in value of your old vehicle toward the down payment on a new vehicle.

There is no specific credit score needed to qualify for financing a vehicle, but some lenders have minimum requirements. Also, while some loan providers may not have credit score requirements some may have income minimums. Each loan company has different ways of calculating whether you should get a loan and factors like income, credit, and vehicle type may be weighed differently in the process. 

Usually having a credit score of at least 580 will allow you to get a car loan from most providers. However, some lenders may work with you if you have low credit or if you have had a repossession. While this is true, it is best to build up your FICO score before getting financing a car to get the lowest rates possible to reduce your overall costs

Credit Score Cost Comparison for Financing a Car

Credit score can drastically affect your rates and the price of taking out a loan. For example, according to  Experian’s Q3 2022 State of the Automotive Finance Market report borrowers with a 500 credit score would pay an average interest rate of 12.93% while those with a 700 credit score would have a rate of 4.90%. To put this in perspective, this is how much a loan would cost with these scores when given a loan for a $10,000 new car with a 72-month term:

You can see here that a higher credit score can save you thousands of dollars and this difference is even more pronounced with used car loans. If you are looking to finance a car with bad credit, the cost of auto loans drastically increases. Those seeking out car loans for bad credit can pay rates of up to 20 percent when financing a car while people with strong credit scores will likely receive relatively low auto loan rates. 

Below are some tips to keep in mind if you decide to finance a car through a purchase loan:

• Get preapproved: Getting preapproval for an auto loan gives you leverage and a better understanding of what you can afford. What you are offered helps you find out what to rates and terms to expect from a dealer and gives you perspective on what is a good deal for your financial situation.
• Put down a sizable down payment: Conventional wisdom suggests that putting down at least 20% of the vehicle’s value is a good idea. The higher your down payment is, the lower your monthly payments and interest rates will be.
• Don’t buy vehicle add-ons immediately: Dealerships will try to sell you a number of things including gap insurance and extended warranties at extremely high prices. While these can be good investments, there is no need to buy them as soon as you get a loan and it is better to take your time and compare options.
• Get a shorter loan term: If you can afford it, getting financing a car with a shorter loan term length allows you to have lower rates and pay less in the long term.
• Finance a car you can afford: Generally it is recommended by financial experts to not pay more than 10-15% of your take home pay on car payments. Also, considering purchasing a used car can save you a lot of money as well.

Financing a car can be a great option to purchase a vehicle if you do not have enough cash to buy it outright. There are many options to get financing for a car, but which is best depends on your current financial situation. Below, we have also listed our top picks for the best places for car financing to help you get started on your search. While our recommendations can be good choices, we urge you to look around and compare offers to find the best deals possible.

Financing a car is a huge decision, so it’s important to pick an auto loan provider that’s both reputable and affordable. Four of the best car financing options are myAutoloan, Consumers Credit Union, AutoPay, and PenFed Credit Union.

Borrowers can count on these lenders to offer competitive starting APRs and dependable service. We’ll explain what makes each auto financing provider stand out in the section below.

Drivers can get connected with various auto lenders on the online marketplace myAutoloan. You won’t get a loan from myAutoloan itself, but the company can help you find auto financing with competitive loan payment options.

You’ll need a FICO credit score of at least 575 to qualify for services from myAutoloan, which is slightly higher than other providers’ minimum requirements. However, the company has an outstanding marketplace selection, and customer reviews give it an average rating 4.3 out of 5.0 stars on Trustpilot.

If you have a decent credit score, Consumers Credit Union may be your best option. The company requires a minimum credit score of 640 for approval, but includes some of the lowest starting APRs in the industry at 1.99%. The company also does not offer a minimum or maximum loan amount, with loans lasting as long as 84 months.

Consumers Credit Union also offers mechanical coverage with 24 hour emergency service as an added benefit for those who secure a loan through the company. Drivers can be sure that they’ll be taken care of with this company as long as they meet and maintain a decent credit score.

AutoPay is a great option for those with lower and higher credit scores. The company’s minimum approval credit score is 575, but also offers low starting APRs at 1.99% making it one of the better options for those with higher credit scores as well. Keep in mind that the higher your credit score, the lower your APR will be.

AutoPay also boasts high customer satisfaction with an average customer rating of 4.19 on the Better Business Bureau (BBB) and 4.5 on TrustPilot.

With low starting APRs, PenFed Credit Union is one of the industry’s most cost-effective options for financing a car. It also holds an excellent rating average of 4.6 out of 5.0 stars from customer reviews on Trustpilot.

Qualifying for PenFed Credit Union isn’t particularly easy if you don’t have good credit, as the company’s minimum credit score for auto loans is 610. While the credit union was geared toward military members in the past, anyone can join by donating to an approved nonprofit organization.

Below are some frequently asked questions about financing a car:

Our review process aims to deliver consistent and unbiased assessments of auto loan providers. While there are multiple qualities that make a loan company successful, our review team focuses on those we believe are the most important for consumers:

• Rates: Auto loan companies with high loan amounts and low APRs are more likely to meet customer needs.
• Reputation: Our review team explored ratings from experts and each lender’s number of years in business when giving this score.
• Availability: Companies that cover a variety of circumstances scored best in this category.
• Customer Experience: This rating is based on transparency and consumer satisfaction ratings. We also took into account the helpfulness of each loan provider’s team based on our shopper analysis.

*Data accurate at time of publication.