If you have blemished credit, you can expect a hard time opening a new credit card account. But getting an auto loan? That's a different story.
Auto loans have come roaring back, and less-than-prime borrowers are invited to the party. That's creating new opportunities to get out of a clunker -- maybe at a less painful rate than you'd expect to pay.
"There's more subprime (auto lending) today even than right before the recession," said Melinda Zabritski, senior director of automotive credit at Experian.
Borrowers with credit scores below 680 got about 27 percent of new car loans in the second quarter of 2013, Experian found, vs. 25 percent in 2007. Contrast that with auto lending during the depths of the downturn. About midway through 2009, the share of nonprime loans was about 17.5 percent of new vehicle financing. "That's a big difference," Zabritski said.
There's also a big difference between auto loans and credit card lending. Since mid-2009, auto loan balances have grown by $71 billion, while balances on credit cards fell $156 billion, according to the Federal Reserve Bank of New York. At least some of the difference is due to easing of standards for auto loans. Auto lenders made $21.2 billion in new- and used-car loans to subprime borrowers with scores under 620 during the second quarter of 2013, according to the New York Fed -- more than double the amount during the same period in 2009.
The figures indicate that subprime borrowers, who were formerly limited to the used-car market and high-rate loans, have more opportunities to roll out of dealerships on new wheels.
How to take advantage of the trend? While there are growing opportunities to look beyond used-car lots and buy-here, pay-here financing, which cater to subprime borrowers, there are still steps you should consider in order to get a square deal. Researching your creditworthiness before you shop for financing is a basic first step, experts say. You can get an estimated credit score online and review your full credit report via AnnualCreditReport.com .
Where do you stand?
Philip Reed, senior consumer advice editor at Edmunds.com, recommends pre-applying for an auto loan, using online lender websites, as a basic part of your research.
"The beauty of applying for pre-approved loans is, it's like running your credit," Reed said. "There are online lenders that will give you a credit limit and an interest rate." Armed with those figures, you can step onto the asphalt of a car lot with greater confidence. Since this is a loan application, it will show as a hard pull on your credit record, which marginally lowers your credit score. As you shop for financing, however, subsequent car loan applications will be consolidated with this one and scored as a single pull.
"If the interest rates available (online) were about 6 percent, and you go into a dealership and they offer you 8 (percent), you know something isn't right," Reed said. But if you show them the quote you got from a competing lender, the dealer may say, 'We can beat that.'"
Gerry Ryan, general manager at Sport Chevrolet in Silver Spring, Md., says he sees lenders acting more competitive.
"Banks are taking a hard look at stuff -- money's becoming more available," he said. At his car lot, the lenders Ally, Wells Fargo and GM Financial are all vying to make loans through the dealership, "so they've got to be on their toes."
The state of rates is low
Often a loan through the dealership's financing office will end up being the most economical choice, experts say. But getting quotes independently from a bank or credit union is also important -- both for research and as a negotiating tool.
While promotions on some vehicles tout 0-percent financing, those deals are limited to a narrow slice of applicants with top credit scores. Across all borrowers, the average rate for a new vehicle loan was 4.46 percent in the second quarter, Experian found.
"The overriding good news is, when rates go down, they go down in all of the credit tiers," Reed said. "There was a time when 6 percent was a good rate for even prime borrowers."
Zabritski said that, for some credit tiers, rates have already changed direction and are edging back upward. For deep subprime borrowers with scores 550 and below, average rates were about 13.4 percent, compared to 13 percent a year earlier.
Another way for auto borrowers to help their cause is to save for a down payment. As a rule of thumb, banks will require 15 percent down on a new car loan, and experts say it's a better idea to put down 20 percent.
How big a down payment?
In addition to helping you qualify for the loan, the down payment insulates you from the steep loss of value that new vehicles experience in their first year of ownership. Otherwise, you risk owing more on your vehicle than it is worth on the resale market. A new car "will depreciate at least 20 percent in the first year ... you prepaid that," Reed said.
The length of term for auto loans is getting longer, with 65 months now typical, Experian says. Longer term loans are generally less economical because of higher interest costs, but Reed noted one exception. If you are in the midst of turning your credit around, you might go into a lengthy loan now, expecting to refinance in a year or so when your score improves. In this case, make sure you get a loan that lets you pay off early without a prepayment penalty. Although it is rare, some auto loans may require you to pay part or all the interest you would avoid by paying early.
Another way to keep your total cost down -- and your odds of loan approval up -- is to skip the extras and options, experts say. Costs of new vehicles are climbing largely because of options that add significantly to the bottom line. The average new vehicle cost $31,657 in August, $221 more than a year ago, according to Kelley Blue Book.
Karl Bauer, senior analyst at Kelley, said it is no hardship for buyers to skip the high-end options, because new cars and light trucks in base configurations already represent a good value.
"A lot of people think they need to get the most loaded version of the vehicle -- you really don't," he said. "Technology is making them better, not just the top-of-the-line version." He recalled a test drive he took in a six-cylinder Dodge Durango that had a lower sticker price than many other full-size SUVs, but exceeded his expectations. "There's a V-8 (version)," he said, "but my reaction is, save your money."
See related: What to expect when buying a car with bad credit
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