Guide to Auto Financing

By Willby Evans

These days, there are a lot of questions concerning the ability to obtain credit. I have been asked by many people about how today’s market conditions are affecting auto financing. Auto credit is still available, but lending institutions are more careful about their terms and conditions and about managing their risk. So today I’m covering the basic factors a lender looks at to determine whether or not to approve you for a loan and at what terms. In future blogs, I will go into more details on the individual areas.

Lenders look at three basic factors when considering an auto loan application. They are looking at your credit history, your capacity to pay and the collateral. Let me go through the basics of these factors and what you can do to make yourself look better to a lender and qualify for better loan programs.

First is history: This is the record of how you have met your financial obligations in the past and what sort of financial obligations you currently have to other creditors. Basically, the longer the history that you have of making payments on time, the more favorable a lender will look at you. A short or non-existent credit history may limit your options but will not necessarily stop you from getting financed. Sometimes having a co-signor with an established credit history can help you overcome a short credit history, or one with some hiccups. Lenders will also be considering what type and how much other credit you have handled in the past.

The second factor is your capacity to pay. Basically, do you have enough income to cover your monthly obligation to an auto lender along with your other obligations? Have you demonstrated stability in your employment? This is an area that you can have a greater impact on in the short term. When selecting a vehicle and applying for a loan, it is important that you try and stay in a budget that fits your income. Lenders were much more lenient in this area not that long ago, but due to the high rate of defaults on many of their loans, they are much more cautious about letting a customer “bites off more than they can chew.” In a situation where there is a co-signor, their incomes will also be considered. Down payment will also have an impact on this because the more you put down, the smaller the loan you are applying for and the lower your payments will be. This leads us into the next area.

The third factor is collateral. When you buy a vehicle, you are using it to guarantee your loan. If you end up defaulting on the loan, the lender has the right to repossess the vehicle and then sell it to try and recoup the money that you owe them. There are several things that a lender may consider as to your collateral. The age and miles on the vehicle are a big consideration for many of the best lending programs. A newer, lower-mileage vehicle is generally considered less risky. A lender also takes into account the loan-to-value (LTV) ratio on a vehicle. Every lender will establish their own process for determining what they consider the value of a vehicle to be. Generally, on used vehicles they will be using either Kelly Blue Book or NADA as a guide for setting their value. Each lender will set their own standard as to what value and what percentage of that value they are willing to lend. The lower the LTV ratio, the better chances you have of being approved and for qualifying or a better loan program. The best way to affect this positively is through down payment. The more you put down, the lower your LTV ratio is going to be, and a lender will look at your loan application more favorably.