For most people, buying a car is one of the biggest financial decisions they will make in their life. When I purchased my first car at the age of 22, I thought I was doing a lot of the right things. But, in reality, I made a ton of financial mistakes during this purchase.

In today’s post, I am sharing what I wish I knew before getting an auto loan so that you don’t make the same mistakes I did!

What You Should Know Before Getting An Auto Loan

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Cars depreciate in value...fast

New cars lose about 60% of their initial value after five years, while a used car depreciates by 15-20% each year. 

This leads to many people becoming upside down or having negative equity on their auto loan. Being upside down essentially means that they owe more on the car than it’s worth.

This is a particularly scary financial state to be in because in the event of financial disaster (like if your car gets stolen or totaled), your insurance may only cover the value of the car itself.

For example, if you owe $13,000 on your car and it is only valued at $9,000, you are still responsible for $4,000 if something happens to your vehicle.

Understanding the depreciation rate of cars is a critical component of making a sound financial decision. Because of this, make sure you thoroughly understand how depreciation works before getting an auto loan.

An important thing to research is GAP insurancebefore financing an auto loan. GAP insurance coverage protects the owner in the event that the car is totaled by paying the remaining balance on the loan after the cash value has been paid.

Save for at least a 20% down payment

When I bought my car, I had $0 saved for a down payment.

You read that right. Zero.

And I regretted it almost as soon as I signed the paper.

Because the more you put down on your vehicle, the less interest you will pay overall. You will also have lower monthly payments and a shorter loan term.

Ideally, you should aim to purchase a car outright, but that is not always a possibility for many people. Regardless, experts recommend putting at least 20% down on your vehicle so you will save more on interest, and be less likely to have negative equity on your purchase.

In addition, you should pay for all of the extras (taxes, fees, warranties, etc.) in cash. Lumping these into your auto loan will cause you to owe more overall and have more negative equity. 

Check out this post to learn how to create a Sinking Fund and start saving for your down payment!

PLUS get a FREE Sinking Funds Tracker when you subscribe to my newsletter with this form:

Keep the term short

The average length of an auto loan in 2020 is 72 months, or 6 years. The average monthly payment is $550 for a new car and $393 for a used car.

That’s a long time to be making monthly payments. Do you really want to be paying that much a month for the next 6 years?

Additionally, the interest rate on an auto loan tends to be higher when the term is longer. This means that you will pay more money on interest over time and it will take you longer to build equity on the car.

For example, let’s say that you take out a $25,000 auto loan with a 3.11% interest rate. If you make monthly payments of $381 for 60 months, you will pay a total of $27,026 for the car. If you make the same monthly payment for 72 months, you will pay $27,437. 

That’s a $411 difference!

On top of that, most people do not “drive their car until the wheels fall off” like they say they do. People tend to get bored of their car after around 6 years, which is another reason to opt for a shorter term period.

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Understand Your Credit Score

Your credit score is essentially a number that measures your creditworthiness. While the importance of your credit score varies between lenders, you generally have a greater chance of getting a better interest rate and less restrictive loan when you have a higher credit score.

Learn more about credit scores here.

Shop Around for Financing Quotes

This doesn’t mean apply for multiple different loans, but definitely explore different lender’s websites and quotes on their auto loans. Take the time to meet with different representatives, ask questions, and pick a lender that is right for you.

Talk to Your Auto Insurance Agent

Did you know that different vehicles have different car insurance rates? 

When you start researching a car you want to purchase, check in with your auto insurance agent to see if it will change your insurance rate. This is definitely something you want to factor into your budget!

Final Thoughts

When I financed my first car, the only thing I thought about was the monthly payment and my credit score. 

Don’t make the same mistakes I did!

Take the time to save money and do (loads) of research before buying a new car. It’s a big purchase, and you want to make sure you are as informed as possible.

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