Buying a new vehicle, or even a pre-owned model, is an exciting experience. But the process can be overwhelming, especially if you’re financing the purchase.
You might wonder, “Is a car loan from a bank a good idea, or should I finance it through the dealership?” It might seem more convenient to handle the entire buying process at one location, but you may not get the best deal.
Before you make a decision about where to get funding for your vehicle purchase, it’s smart to do some research . You can get pre-approved for a loan through a bank or credit union even before you find the car you want to buy, which can help you establish a budget.
Since a car is often the second-most expensive purchase a person will make, after a house, it’s highly recommended to consider different financing options to save as much as possible.
Car Loan Options
The main options for financing a vehicle purchase are obtaining a loan from a bank or credit union and obtaining a loan through the dealership.
Financing a Car Purchase through a Bank
If you want to start the financing process before you arrive at the dealership to buy a car, the first step is talking with a representative at a bank or credit union.
You can get prequalified well before you even start shopping, which means you’ll come into the dealership or a private party transaction with more buying power. By obtaining pre-approval, you can demonstrate exactly what you can afford to pay for a car.
Some banks have brick-and-mortar locations, while others exclusively provide online services. In some cases, online banks can offer lower interest rates and better deals to borrowers since they don’t have the overhead costs associated with operating local branches.
It’s smart to shop around and compare options at different financial institutions rather than just taking out a loan from the bank where you have other accounts. The rates offered by banks and credit unions generally reflect the market conditions and don’t include markup.
A marked-up interest rate can cost you a lot of money over the life of the loan, which is why it’s worth comparing before you finance through the dealership. Some automotive dealerships mark up their rates to make extra money or only offer lower rates to those who purchase new models.
The quote you get from a bank initially isn’t the final number. The professional you’re working with will run your credit and review the report to determine the interest rate for which you can qualify.
Additionally, banks and credit unions often offer different interest rates for new versus pre-owned vehicles. Some financial institutions have mileage and age limits for financing, so starting the process before you find the car you love can save you time and trouble.
Financing a Vehicle at the Dealership
Most automotive dealerships have financing departments staffed by finance professionals who can provide a few options. Dealers have connections with different lenders, and they’ll submit your information to these lenders to get quotes.
But in some cases, the finance professionals at a dealership may offer you a higher rate than what the lender would offer. The difference would remain with the dealership as compensation for managing the transaction on your behalf.
By comparing interest rates and loan options on your own, you can make sure that what the dealership offers is competitive. If it’s not a competitive rate, you can ask whether you would qualify for a lower rate or simply go through the bank or credit union for financing.
Car dealerships often count on making extra money by handling financing in-house, so the financial professionals may offer you a better rate if you express your plan to go elsewhere.
You might be tempted to finance a vehicle purchase through the dealership if you have poor credit or no credit history. Some dealers specialize in second-chance financing, which is available to those with a low credit score.
However, it’s important to look at the interest rate before entering into a bad credit auto loan. You could end up paying a lot more over the term of the loan.
According to a 2020 Experian report, an individual with a subprime credit score that falls between 501 and 600 typically qualifies for an average interest rate of 17.78% for a used vehicle and 11.33% for a new vehicle.
The Federal Reserve reports that the average interest rate across all buyers during 2020 was 5.14%, marking a significant difference. If you bought a car for $10,000, you’d pay over $1,700 in interest at the higher rate. By contrast, the 5% interest rate would cost you an extra $500.
Benefits of Financing through a Bank or Credit Union
When considering whether to obtain financing through a bank or credit union or going through the dealership where you plan to buy your car, it’s helpful to consider a few benefits of the latter option:
No Pressure to Buy
The sales team members at car dealerships typically earn commissions for every car they sell. As a result, they’re more likely to apply pressure on potential buyers to make more sales. Some might even pressure you to go through their location for financing because they know doing so makes more money for the dealership. But when you’re under pressure, it’s harder to make an informed and smart decision.
By contrast, a bank representative typically doesn’t earn a commission on loans they close. They’re less likely to put pressure on you, as it doesn’t necessarily benefit them if you take out a loan. Bank representatives may also offer you various options, such as a loan with a longer term and lower interest rate or a shorter term that you can pay off quickly.
Budget before You Start Shopping
Since you can get pre-approved for a loan with a bank before you decide on a car, you can establish a clear budget based on what you can afford. If you start your car buying journey at a dealership, you might get swayed by a brand-new model with all the latest features, even if it doesn’t fit into your budget.
Dealership employees can use different methods and tactics to get you behind the wheel, such as extending the term of the loan, but you could end up with a car payment you can’t afford or paying more in interest.
It’s best to start looking at vehicles with an understanding of what you can buy to avoid getting your heart set on a car that’s outside your budget. When comparing loan options, make sure to factor in your down payment to get an accurate monthly cost.
Increase Your Buying Power
Getting preapproved can also give you more power when you visit a dealership, as you can shop like a cash buyer. You know exactly what you have to spend on a car, and you can use this to negotiate with the salesperson.
By coming in with a plan for financing elsewhere, you can skip the conversation with the financing department and focus your time and energy on finding a vehicle and negotiating the price.
If the dealership salesperson wants to make a sale, they’ll have no choice but to work with you and the amount you’re approved for through the bank or credit union. Many dealerships try to upsell customers on additional packages and options, but having a fixed price you can pay helps to curb that conversation as well.
Although you might interact with a local financing professional when arranging your financing through a dealership, the actual loan will typically go through a national lender. As a result, you may not get much in the way of personalized service after it closes.
Local banks and credit unions can typically provide a higher level of service to their members. If you miss a payment, you might talk directly to someone at the bank and explain your circumstances. But if the loan is through a lender with no direct relationship with you, they’re more likely to cut their losses and move on.
Benefits of Financing through a Dealership
Financing through a dealership comes with a few benefits, especially for people in certain circumstances.
Low Interest Rate
It’s worth considering financing through a dealership if you’re buying a new car, as manufacturers often offer promotional financing on brand-new models. If you qualify for a 0% annual percentage rate (APR), you won’t have to pay any interest for as long as that promotional rate is in effect. Buyers usually need excellent credit to qualify for promotional rates.
Some automakers offer incentives to buyers who purchase and finance vehicles through authorized dealerships. Examples of incentives include:
- Loyalty programs: These are discounts offered to buyers who already own or have previously owned the same vehicle brand in the past.
- Bonus cash: This is a rebate typically offered to a specific group, such as military personnel or recent college graduates.
- Cash back: This can range from $500 to $5,000 or more, and is an incentive â€” typically issued in the form of a discount rather than a check â€” that buyers may receive when purchasing a vehicle before a certain date.
Dealerships can also receive incentives from manufacturers, which they can then pass on to their customers. Some of the dealership incentives include dealer cash and dealer rewards, or kickbacks when they meet certain goals or targets.
Options for Buyers with Poor Credit
As mentioned, some dealerships offer second-chance financing for buyers with low credit scores. If you can’t qualify for an auto loan with a bank or credit union but you really need a reliable vehicle, going through the dealership for financing may be your only option.
Trading In a Car
If you’re trading in a vehicle as part of the purchase process, you might think you have to go through the dealership for financing. However, the trade-in value is usually included as a deduction on the invoice, which means you’ll just pay less for the car when you buy it.
When you apply for financing, whether through a bank or the dealership, you’ll indicate whether you have a vehicle to trade in and an estimate of its trade-in value.
When you trade in your car, the dealership will simply lower the purchase price, which means the loan you take out will be lower. The trade-in value and your down payment will both influence your monthly payment for the new ride as well.
How to Apply for a Car Loan
The process of financing a vehicle through a bank includes submitting personal information, including your name, contact information, and Social Security number. The bank representative can pull your credit history and report to determine whether you’re a good candidate for a loan. They’ll also review your income level and debt-to-income ratio to assess how much you can afford to pay each month.
It’s best to submit your application for preapproval within a month of when you plan to purchase a car. Having multiple credit inquiries show up on your report will only count against you once if they occur within 14-45 days of one another. But if you wait too long to buy, the bank will have to run your credit again, which may affect your ability to qualify.
After you submit your information and get preapproved, you can start shopping for your next ride. Bank financing is available for both new and pre-owned models, and most banks don’t place a cap on how much a customer can borrow for a vehicle. When you find a car that meets your needs and fits into your budget, you can provide the details to the bank. They’ll need the vehicle identification number (VIN) and the name of the dealership or private seller.
Upon final approval, the lender will either issue payment for the vehicle directly to the dealership or private seller or to you, allowing you to use the funds to pay for it yourself. You’ll usually start making monthly payments within 45 days of closing the loan. The lender will provide details to you about where to send the payment and on what day it’s due each month.
Financing vs. Leasing a Car
When you’re comparing financing options, you might find information about leasing and wonder whether it’s a good option for you. Only dealerships offer leasing options and most only allow customers to lease new vehicles. A lease agreement allows you to drive a car for an agreed-upon amount of time in exchange for a monthly payment. When the term ends, you can return the vehicle to the dealership or potentially pay the remaining value and keep it if your agreement allows for a buyout.
It’s easy to be tempted by leasing deals offered by dealerships because they often have much lower monthly payments. You could get behind the wheel of a new car for hundreds of dollars less each month than you would if you financed it. However, it’s important to understand that the payment you make each month doesn’t help you work toward paying off the car. Instead, you’re paying that fixed amount to be able to drive the vehicle.
Lease agreements also have mileage limits, so if you drive a lot, leasing a car may not be a good option for you. If you go over the limit, you’ll be responsible for paying the difference in the form of a per-mile rate. Additionally, leased vehicles must be returned in excellent condition. Any damage could subject the lessee to additional fines and penalties.
If a lease agreement includes a buyout option, the financing professional will provide a residual value of the vehicle at the end of the term. The lessee can pay that amount in cash or through a financing agreement to keep the car, although it will no longer be under a lease agreement.
Best Banks for Car Loans
When comparing the car loans offered by local, nationwide, and online banks and credit unions, it’s helpful to consider a few factors. The first is the available interest rate, which will depend on your credit and financial history. You should also look at the terms offered, the level of service, and any special deals that might be available. Some of the top-rated banks that offer car loans include:
Capital One Auto Finance
Capital One Auto Finance is a lender to consider if you have poor credit and may not qualify with other lenders. You can apply for prequalification without affecting your credit score, as this company offers estimated interest rates and loan terms without a hard credit check. However, if you go through Capital One Auto Finance to fund a vehicle purchase, you can only shop at the company’s partner dealerships.
LightStream is a division of Truist Bank and offers loans for traditional cars, trucks, and SUVs as well as RVs and motorcycles. It offers a Rate Beat program that will beat any competitor’s interest rate by 0.1% as long as the rate and loan meet certain conditions. In some cases, LightStream can deposit the funds into the applicant’s bank account on a same-day basis, which can help with getting a car quickly.
U.S. Bank is one of only a handful of lenders to offer the same interest rates for vehicles that are new and pre-owned (up to 6 years old). Lenders usually charge higher rates for used cars, so if you’re shopping in the pre-owned section, it’s worth looking into the rates available for your purchase. Although you can get preapproved online, U.S. Bank requires you to come into a branch to finish the application. Since this bank has locations in 26 states, those living in the other 24 states wouldn’t be eligible for financing.
Bank of America
Bank of America provides various auto loan options, including purchases from private sellers and certain dealerships, including CarMax, Enterprise Car Sales, and Carvana. If you’re already a member, you could qualify for a discount of up to 0.5% on your rate. To qualify for the highest possible discount, you’ll need to be a Preferred Rewards customer and meet certain minimum balance requirements in your account(s).
Many people use financing when purchasing new and pre-owned vehicles, as a car is a significant expense. But failing to do research and look at all your options when arranging for financing is a mistake that could cost you a lot of money over the life of the loan. Instead of simply using the dealership for the sake of convenience, it’s worth comparing loan options to get the best possible deal.
Elizabeth Rivelli is a freelance writer with more than three years of experience covering personal finance and insurance. She has extensive knowledge of various insurance lines, including car insurance and property insurance. Her byline has appeared in dozens of online finance publications, like The Balance, Investopedia, Reviews.com, Forbes, and Bankrate.