Most people think that the price tag on the car is how a good deal is made. That's not usually true. It's in financing a car that a great deal is really made. A higher-priced purchase can become the lower-cost deal if the interest rate over time is lower. For most automotive purchases, the financing is what makes or breaks a great deal. Interest generally costs far more than the difference of a few hundred dollars from one dealership to another.
Should I Get Financing Before Visiting the Dealership?
This will depending heavily on whether you are expecting to buy right away or plan to shop around before making a purchase. If you are planning to purchase quickly, then having financing in place is usually a good idea. Just know that the pre-approval you receive from a lender is usually contingent on certain things and you'll need to know what those are before trying to make a purchase final. Those with uncertain or low credit should definitely seek financing options before trying a dealership. The caveat here is that most dealerships now have very good loan brokers on staff who are excellent at finding financing for a car.
What Is More Important? Total Cost of the Loan or Interest Rate?
Both are important. The total cost on the loan are in its fees, up-front payment requirements (aka "down payment"), and interest payment requirements. The interest rate merely determines how much interest is to be paid per payment (usually measured annually). Some loans require that all of the interest be paid, even if the loan is paid off early. Others give incentives for earlier payoff through interest reductions or cancellations.
A low-interest loan, for example, will generally have lower total costs than will a higher-interest loan. What can make the difference, though, is the low-interest loan requiring a high percentage of up-front payment or fees to secure the loan. Length of the loan is a better way to determine costs as a shorter-length loan usually has lower interest and costs associated.
Is a Shorter or Longer Loan Better?
A shorter-term loan is usually better. When financing a car, interest rates are usually compounded over time but also through total amount owed. This means that, over time, the amount being paid in the car payment is leaning further and further towards paying the principal (cost of the vehicle) over interest (cost of the loan). For example, equity (actual ownership) of the vehicle grows faster in a three-year loan than it does in a five-year loan. This is because the payment for the three-year loan term is paying down the total owed faster, thus putting more and more of the payment total into the cost of the vehicle rather than interest.
How Much Down Payment Should I Have?
The best case scenario is having 15-20 percent of the vehicle's purchase price as a down payment. This is usually a combination of cash and a trade-in vehicle. Most vehicles, however, are sold with a far lower amount of down payment and many are sold with no down payment at all. The up-front cost of the higher down payment is usually offset by lower interest rates and no requirement for GAP or other higher-cost insurance coverages to cover the difference between the vehicle's actual value and what's owed. That difference is often called a "depreciation gap" or "being upside down."