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The Basics Of Car Loans: What You Need To Know

Before you even purchase a new car — whether it is your first car or not — especially if you intend to borrow money, it is very important to know and understand the basics of car loans.

the basics of getting a car loan what you need to know

Are you planning to buy a new car through a car loan?

If your answer is yes, are you fully aware of what a car loan is all about? Do you know what it entails to loan money from a financial institution? Do you know the pros and cons of getting a car loan?

These questions are not merely questions to confuse you or for you to think twice about getting an auto loan. That’s not the point. We are asking you these questions because it matters to know the basics of car loans. This will help you make informed decisions, at the same time, save yourself from future trouble.

A car loan is probably one of the basic or most common types of loans available out there. In fact, it is too popular that in data published by Statista, it says that “the outstanding car loan balances in the U.S. amounted to 1.23 trillion U.S. dollars in the fourth quarter of 2019”.


Meanwhile, according to the country’s Consumer Financial Protection Bureau, as of April 2019, there were 2.3 million auto loans that originated. Furthermore, the volume of the loan was $52.8 billion, while the year-over-year originations increased by 3.6%.

These data are proof of how many people are getting auto loans. Well, it is not surprising because according to one study, people find having their own car a necessity. Yes, it’s not simply a want, but a need.

How about you? Are you buying a car because you want it or because you need it?

Whatever your reason is, for as long as you are buying a new car through a car loan, it is important that you know what car loans are all about.

Having said that, today, we are going to share with you some of the basics of car loans. In particular, we are going to tackle the following:

  • What is a car loan?
  • What is the process of getting a car loan?
  • How to ensure a car loan approval?
  • How much does a car loan cost?
  • Where to apply for a car loan?


As the name suggests, a car loan refers to the sum of money borrowed from a lender or creditor in order to be able to purchase a car or any type of vehicle for that matter.

Generally, a loan refers to the amount of money that is lent to an individual, or a business, or even to another entity. The lender or creditor refers to the party (usually a financial institution) that lends the money, while the borrower is the person to where the money is being lent to.

A lot of people are usually confused between a car loan and a personal loan, while the latter allows borrowing money to buy a car, the former is very specific to purchasing any form of vehicle. More so, one big difference between the two is that a personal loan is usually an unsecured loan, which means it does not require collateral to be able to borrow money.

Meanwhile, a car loan automatically makes your car the collateral for the loan. Thus, if you, the borrower, fail to make payments for the loan, the financial institution does have the right to repossess the car.

Now, car loans follow almost the same rules as well as procedures that apply to other forms or types of loans offered in the market. All car loans are for a specific period of time, which usually lasts between 24 and 60 months. However, there are lenders that allow longer periods.

In almost all car loans, lenders charge specific fees and taxes, which, are generally added to the total loan amount.

Car loans are available in different financial institutions, however, the most common of all is, of course, banks.

In case you want to know, car loan officially originated back in the year 1919. It was established when the General Motors Corporation, which is an automobile manufacturer in Flint, Michigan, established what they then call as the General Motors Acceptance Corporation or GMAC. GMAC was founded in response to the growing demand for vehicles among Americans after World War I.

Just before we get into details, here’s a very informative video about getting a car loan by Honest Finance, which we thought you should watch especially if you are interested to know more about getting a car loan. Hit the play button below:


Part of learning the basics of car loans is knowing the process of getting one. Having said that, here’s a step-by-step guide on getting a car loan. Hopefully, this helps you get familiarized with the whole process.

STEP 1: Know Your Credit

Your credit score is vital when it comes to the approval of your car loan application. Most lenders, especially the popular and big ones, do have a specific minimum credit score requirement in order for an application to be accepted.

Furthermore, your credit score helps in determining how much money you can borrow, and the possible interest rate.

Being knowledgeable about your credit score will help you understand when you are getting a great deal with a lender, or if it’s time to look for another one, a better one.

Generally speaking, though, a high credit score will result in a lower interest rate, while a low credit score means a higher annual percentage rate.

It is important to note that having bad credit may lead to your car loan application to get declined. But do not lose hope though as you can always improve your score, and re-apply when you already have better credit.

STEP 2: Know Your Budget

Be realistic. Do not aim to buy a car that you cannot afford. It will just lead you to further debt — needless to say, that may lead to a big-money problem in the future.

But how do you know how much you can afford?

Well, there are two ways to do that. One, is you do a manual computation. Get a piece of paper, and work out how much you can afford based on your savings as well as your monthly income (of course, you have to take into consideration all the other bills you pay to be able to arrive in a realistic budget).

Two, you can use an auto loan calculator, which is very accessible online. There are lots of websites out there that offer this feature for free. This will help you determent your monthly repayments according to your potential APR and loan term.

Any of these works, but if you were to ask us, we’d recommend doing the second option as it will give you better and more realistic estimates.

STEP 5: Shop for the Best Loan Deal

Here’s the thing — rates and terms vary depending on the lender or creditor. That is why it is important to shop around first before deciding which lender to deal with.

There are so many car loan providers out there — too many, in fact, that it can get a little overwhelming for some especially those who are new to car loans.

Just get as many offers as possible, and once you have them, compare one from the other.

When comparing offers or deals, make sure to look into the following features:

  • Loan Amount – This refers to the amount the lender is willing to lend you.
  • Annual Percentage Rate – This refers to the interest rate. The lower the interest rate, the better.
  • Loan Term – This one refers to the length of your loan. How long does the lender will allow you to pay for the loan?
  • Restrictions – This varies from one lender to another. One example of which is that there are lenders that only accept used car that is below 10 years or a hundred miles.

STEP 4: Get Preapprovals from Various Lenders

Applying for a preapproval does not necessarily mean you are dealing with the institution right away. Basically, this allows your lender to confirm whether or not you are eligible to borrow money at an estimated rate from them.

Once you get preapproval, you have 30 to 45 days to shop for your car.

Upon confirmation that you qualify, make sure to gather the information as well as documents you need to get the preapproval application started. Basically, you will need your personal, as well as financial and employment details. In some cases, though very few instances, lenders ask about the car that you want to purchase.

STEP 5: Shop for Your Car

Once you are done calculating, budgeting, as well as getting preapprovals from different lenders, the next and the most exciting thing to do is to shop for your car!

Assuming you do not have a specific brand and model in mind, you may search for cars in the following channels:

Online – This is the most convenient and the easiest manner of looking for a car. As you know, almost everything is online now. So, instead of going from one shop to another, all you have to do is go online. Then, compare dealerships’ advertised options against sources such as Edmunds and Kelley Blue Book. More so, you will also be able to compare the dealership from various manufacturers, which gives you access to the best deals around.

Dealership – Of course, if you want to go the traditional way, you may opt to visit the dealership instead. Visiting dealership is actually the best option for those who are interested in dealership financing.

STEP 6: Finalize Your Loan and Receive the Money

This is the last step. Once you have decided on the car that you are buying, it’s time to finalize your loan. For this step, you basically just have to follow the lender’s instruction with regards to finalizing your loan.

However, just to give you an idea, if you are opting for financing from a third-party lender, funds are usually transferred either by sending it to you so you can personally pay the dealership, or they send it directly to the dealership.

Meanwhile, if you choose to go for dealership financing, you just have to sign some paperwork, and you’re done.


Learning the basics of car loans give us the idea also about our eligibility to get a loan. This allows us to assess ourselves on whether we are likely to get approved or not.

We mentioned earlier that the better your credit score is, the likely your car loan to get approved. Furthermore, you can even enjoy a lower interest rate.

But what if your credit is not good enough? What will you do?

Here are some tips that you may want to look into to ensure your car loan gets approved.

Get a Co-Signer – Once you get a co-signer, you basically have to put their name and their credit score on the line so you get to purchase your dream car. This is a little tricky though because in case you do not do your obligation, which is to pay for the loan, the co-signer credit score will be put in a bad light. Normally, a co-signer is someone who is a very close relative of the borrower.

Peer to Peer Auto Loan – To be realistic, finding a co-signer can get a little challenging sometimes. So, if you fail to find one, you may opt instead to loan money from various peer to peer auto loan websites. Please take note though that peer to peer auto loan sites usually charges a higher rate for high-risk loans or those who have a not-so-good credit score.


The cost of a car or auto loan depends on various factors. Some of the factors that affect the cost of an auto loan are:

Annual Percentage Rate – This refers to the interest rate the borrower has to pay on the car loan. This is essentially the fee that your lender or creditor charges for your loan. Usually, the lower the APR, the less time you have to pay for the loan.

Down Payment – This refers to the cash or money you put down at the outset.

Loan Term – As we have mentioned earlier, this refers to the length or period of time you will need to repay the car loan. The length varies from one lender to another. Some would offer to 36 months, while others may allow you to pay off the debt for 72 months. To be sure, ask your desired car loan provider.

These factors greatly affect how much a borrower pays in interest over time. Ideally, the shorter you pay off the debt, the better. That means less money wasted in paying the interest rate. Meanwhile the longer you pay for a loan, the more expensive it can actually get.


From all the basics of car loans, this one’s one of the most important. As a borrower, you need to know your options so you get to choose the best possible car loan offer.

While there are a few options out there, there are three major places where you can avail an auto loan. These are:

  • Banks
  • Credit Unions
  • Auto Dealership

To give you an idea, here’s what makes each different from one another:


Banks are probably the most common and most accessible place where people can avail or apply for a car loan. What draws people to banks is the very fact that it’s everywhere! The downside, however, is that you have to go there personally to apply for the loan. Also, banks do usually charge higher interest as compared to other financial institutions.

Credit Unions

A credit union refers to a not-for-profit, member-owned financial cooperative. It provides its members with different financial services like car loans. Compared to banks, credit unions charge a lower interest rate, which actually makes them ideal for borrowing money. The downside though is that you have to be a member to be able to avail of a car loan.

Auto Dealership

An auto dealership refers to the business that sells either used or a new car. What makes it a standout compared to the other two is that auto dealers usually give discounts and other freebies/promos. They are also open to borrowers who either have good and bad credit. The downside though is that they tend to charge a higher interest rate.

Between the three options, the best depends on the borrower himself or herself. Remember, there are a lot of factors that need to be considered, particularly the credit score of the person. So, yeah, it really depends from one to another.


As you can see, there is a lot of information that a borrower needs to know first before getting a car loan. All the information we provided is equally vital especially if you want to make the best decision with regards to loaning money for your dream car or for a vehicle you intend to use for business purposes.

With all that’s been said, what is your takeaway? Have you decided already if you are loaning money for your car or not?

Just always keep in mind all the basics of car loans. That way, you will be able to make an informed decision. Something that will keep you out of financial trouble today or in the future.

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