Auto finance guide by Auto Cheat Sheet.

Trust dealer finance?

Trust dealer finance?

Trust dealer finance?

Auto finance guide and car loan tips.

Car dealers want you to believe that you must finance a vehicle through the dealership you buy it from.  This is false, financing automobiles was an afterthought of car dealers.  They didn’t even have finance departments until a few decades ago. Recognizing an opportunity, finance departments were added to dealerships to bring in much needed profit to their business models.  Another misconception is assuming a car dealership actually finances the vehicle. The dealer does not approve or deny you for a car loan.  All they do is arrange financing for you with the many banks and lenders they partner with.  The lender is the one that ultimately determines if you will be approved for a car loan and at what interest rate.

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How dealers make money financing cars

There are basically two areas a dealer can make money selling a car.  In the industry they’re called “front end” and “backend.”

Front end – this is the difference from the actual cost of the vehicle to the agreed sales price of the vehicle being purchased.

$20,000.00 = Dealer net cost.
$22,500.00 = Agreed upon sales price.
$2,500.00 = Total amount of money made on the front end.

Backend – The amount of money made between product cost and agreed upon sales price from the finance department including, but not limited to, finance, warranties, maintenance programs, insurance products, etc.

Car dealers do a great job negotiating the price of the vehicle, but they do their best job when they get you into the finance office. After you’ve agreed to the price of the car, you’ll be turned over to the finance department. This is where you will be offered several finance options, warranties, additional insurance products and eventually sign all of your paperwork for your car. The finance department is a very high profit center for a dealership and it is not the time to let your guard down.

The individuals in these departments are highly trained professional salespeople. Their job is to up sell you high profit backend products such as extended warranties, pre-paid maintenance programs, GAP, and other insurance products.

Another highly overlooked way dealers make money in finance is by increasing the interest rate lenders charge the customer and then pocketing the difference. This is called “finance reserve“ and most dealers will attempt charge up to 2.5% in additional interest, although there are times they will raise the rate by as much as 7% or more.

Backend finance example

Example: You finance a $25,000 car for a 48 month term and qualify for a 4% interest rate. However, unknowingly to you, the dealer bumps up your interest rate to 6%. The 2% bump allows the dealer to put an additional $1,087 in their pocket.

Now let’s add to the example above and say you decide to purchase an extended warranty, GAP, and credit life insurance. Below is why you should not let your guard down when financing with a dealership.

How auto finance reserve fits into the backend:

$1,087 = Finance reserve of 2%
$1,200 = Extended warranty profit
$1,195 = GAP and credit life insurance profit
$3,482 = Total backend profit

Now the dealers made $3,482. That’s an additional $72.54 a month added to your monthly payment before interest on top of any profit from the vehicle itself. Dealer’s have years of experience on how to get this additional money out of you and making you believe you’re getting a great deal at the same time.

Common auto finance department tricks of the trade

  • Extending your finance term 60 months or longer to lower your payment without your knowledge.
  • Signing you at a higher interest rate than what you actually qualify for.
  • Sneaking backend products into your car loan (extended warranties, insurance products, pre-paid maintenance programs, etc.)
  • Increasing the interest rate higher than what you’ve previously agreed too.
  • Rush you through the actual signing of the paperwork on your vehicle so you don’t have time to read and review everything.
  • Switching your retail auto loan to a lease or balloon without your knowledge.
  • Telling you the lender requires that you must buy a certain backend product before they will approve you for a loan.
  • Increasing the price of the vehicle at the time of signing without your knowledge.
  • Spot delivering you because they do not have you officially approved through a bank or lender.

How your credit score affects your interest rate

When you shop for a car loan you have several options, but what those options will cost you depends on your past credit history and more importantly, your credit score.

  • If your credit score is 680 or above you will be considered a “Prime Borrower.” As a prime borrower you will qualify for lowest and best interest rates (prime rates). You will have many more options available to you when it comes to financing a vehicle.
  • If your credit score is below a 680 you’re considered a “Sub-Prime Borrower.” Depending on how far below 680 you are, will depend on how high your interest rate will be. You will also not have as many finance options available to you.
  • If your credit score is in the 500 range you’ll be considered as a “High Risk Borrower.” You’ll pay a little higher interest rate and have more limited finance options. If this is the case, you should consider applying for a bad credit car loan online.

Dealers know the majority of car buyers are unaware of their current credit history and have no idea what their personal credit scores are. Not knowing this information makes it very easy for a car dealer to take advantage of you.

If you don’t know what’s been reported to your credit report and have no idea what your credit score is, the Internet has made it very easy to acquire this information.

  • You do not have to finance a car through the dealership.
  • If you solely rely on a car dealer to arrange financing on the next vehicle you buy, you’re guaranteed to lose money.
  • When you finance a vehicle with a car dealership you are in reality dealing with a middleman. You’re also vulnerable to some of the most costly car dealer scams out there. The good news is you have several alternatives to financing a vehicle with a car dealership to protect yourself.
  • A pre-approved car loan through a third party will leverage the playing field when dealing with a dealership’s finance department.

Get a pre-approved auto loan before contacting a dealership

If you plan to finance your next new or used car, one of the most important things you can do to protect yourself is to obtain a pre-approved car loan from an outside lending source before contacting a car dealer. This is actually very easy to do and more people are starting to take advantage of this method.

If you are prepared, you will be confident, and will do the job. – Tom Landry

Having your auto finance loan arranged upfront creates a “golden parachute” in the case a dealer cannot get you a better deal.  You will know the interest rate (APR) and the amount you’re approved for before ever stepping foot inside the dealership.

You will also have the upper hand when it comes to negotiating a better APR with the finance manager. The F&I manager will not be able to play any games with you by marking up the interest rate. If for any reason the finance manager is not able to beat your current rate or get you approved for an auto loan, you can use your pre-approved car loan (golden parachute) to finance the car.

There are two types of car loans, good credit and bad credit. Pick the one that best fits your current situation to learn how to get free pre-approved car loan quotes online.

Good Credit Car Loans Bad Credit Car Loans

The most popular auto loan terms in the United States are 48 and 60 months. A longer term allows you too purchase a higher priced vehicle and still have a lower monthly car payment that conveniently fits into your budget.

Before you sign, calculate what the longer term will end up costing you, interest and all. A longer term plus a higher interest rate equals more money out of your pocket.

My advice, as well as several financial advisors, is to finance a car for only 48 months and never consider financing a car longer than 60 months.

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Common auto finance mistakes

Mistakes made when financing a new or used car are very common. Some mistakes are made before ever walking into a car dealership. If you rely on a car dealer to arrange financing for you. You will end up paying for it dearly!

Many people tend to relax and let their guard down believing once they’ve negotiated the price of the car, the hard part is over. When in reality only half the battle is complete.

The finance department is one of the highest profit generating departments in the dealership and they’re ready to take your money.

I’ve listed some of the most common car buying mistakes when financing a car below so you can keep from making one of these costly mistakes yourself.

Not comparison shopping interest rates

You should never put all your eggs in one basket when it comes to acquiring an auto finance loan. Just one additional point of interest on a $20,000 car will cost you plenty. Online auto finance companies are great because they provide you free, no obligation quotes and do not charge you for their service.

Each lender has its own underwriting guidelines. One lender may not approve you but another may approve you at a better rate. Always comparison shop auto loan providers to see which one will provide you with the best interest rates and terms.

Basing your decision on a monthly payment alone.

Walking into a dealership saying, “I want to buy a car but I can only afford $400 a month,” is a huge mistake. A slick salesperson will take you to the most stripped out vehicle on the lot and tell you that’s what you can get for $400 a month. Of course you will not want it and start bumping yourself up in payment to get the vehicle you want. Always negotiate the vehicle’s invoice price and/or trade difference, never cash down or payments.

Letting the dealer know your pre-approved to soon

You should not tell the car salesman you have a pre-approved car loan in place. Don’t say anything about it until you’ve been presented the dealer’s financing options. If you tell the car salesman you already have your financing arranged, he will tell his sales manager. The sales manager will most likely not be as flexible with the price if he knows he is not getting a shot at you in the finance department.

The idea is to catch the finance manager off guard. Once he presents his options to you, then you can decide if the dealerships financing is better or not. You can now bring up that you’re approved for XX% for $XX,XXX amount. Turn the tables on the finance manager and ask him if he can beat it. If not, go with your pre-approved car loan. It’s really that easy.

Financing overpriced accessories and dealer add-ons

Car dealers have a lot of extras and accessories to up-sell you along with your new or used car. Items like rust proofing are already on the vehicle when it comes from the factory. If you see these types of “extras” on your paperwork, just cross them out and refuse to pay for it.

Fabric protector is another one you can do yourself for just a few dollars. Vin-etch is a common extra dealers will pre-install on their new cars and trucks. They can mark this up anywhere from $50 to $500. You can get these kits online from Vinshield and apply them yourself for much less.

Always read your paperwork and have the cars total price itemized so you can see if there is any unwanted extras or accessories added to the price.

Agreeing or signing something you haven’t read.

Some salespeople are very good at manipulating and glossing over information when presenting it to you, only touching on the positive aspects of the car deal and not the negatives. Slow them down and make sure they explain every section on the paperwork until you do.

Remember this – “There is no such thing as a stupid question” when it comes to spending thousands of your hard earned dollars buying a car. If you don’t understand something, make sure it’s explained to you. If you still don’t understand, have them explain it until you do. Especially before you sign anything!

Not getting copies of your finance paperwork

Never leave the dealership without first getting copies of your contract and paperwork. If you don’t receive copies of your paperwork before leaving the dealership, you may be spot delivered. Use caution, this means the dealer doesn’t actually have your car loan approved at the time you take delivery. You can read more about the spot delivery in our car dealer scams section.