A down payment is among the list of requirements to purchase a new vehicle. However, a significant number of people do not have enough money saved to cover down payment. Rising vehicle costs have also had an impact on customers’ ability to cover down payment.
However, many lenders are adapting to this trend. Nowadays, people with optimal financial backgrounds can purchase a vehicle with no down payment. Those with a weak credit history can now rely on family members and relatives to get approved. In this article, we explain how these options work and what to consider along the way.
Benefits of down payment
Providing down payment has many benefits. First, it lowers monthly payments, interest rates and loan terms. For example, a family who wants to purchase a $30,000 car agrees to provide 20 percent as down payment, or $6,000. As a result, lenders only have to approve a $24,000 loan to cover the difference. Because they provided $6,000 as down payment, the family gets a prime rate of 4.7% with a loan term of 48 months. Their monthly payment will be around $550. If they choose a loan term of 60 months, their monthly payments would decrease to around $450. The family would pay $2,400 in interest, bringing the total purchase cost to $32,400.
In contrast, customers who provide less or no money as down payment are offered different terms. In most cases, they must accept higher interest rates and loan terms. Using the example above, customers would need a $30,000 loan to complete the purchase. Because they provided no down payment, customers may get interest rates as high as 12 percent, with a loan term of between 60 and 84 months. If the family chooses 72 months, their monthly payments would remain at around $550. However, total interest paid would be almost $13,000, bringing the total purchase cost to $43,000.
Research data from Edmunds.com reveals that, on average, most people provide around 10 percent down payment. The main reason why customers are not putting down 20 percent is because of rising vehicle costs. However, interest rates have decreased from 9 percent during the 1990s to only 4.5 percent by the end of 2018, offsetting some of the additional cost. To keep monthly payments in check, families have chosen longer loan terms too. As of 2017, the average car loan term was 68 months.
However, providing down payment is not the only way to get the best rates. Many lenders are willing to sell vehicles with no down payment as long as customers meet certain requirements. For example, having a high enough credit score, or having someone co-sign the car loan.
Have a credit score around 550 and 680
People with high enough credit scores often have access to new vehicles with no down payment and generous interest rates. In general, most lenders offer this option to customers with credit scores at or above 680. People with scores between 550 and 680 may still be able to waive down payment, but at the cost of higher interest rates. Customers with credit scores below 550 are often not approved by lenders without 20 percent down payment.
Those who have low credit scores can use several strategies to raise it. A credit score is a numerical value that represents the creditworthiness of an individual. It is compiled by analyzing a person’s financial history, including past credit reports and monthly payments. Improving credit scores takes time. The lower a credit score is, the longer it will take to raise it. However, there are some effective strategies to improve a credit score in 6 to 12 months.
The first step requires paying bills on time. Late payments have a substantial impact on a credit score, and must be avoided at all costs. Taking a payday loan can be a potential solution to address upcoming bills, especially when the paycheck is still far ahead. Paying bills on time is important because most financial institutions consider payment history as an accurate predictor of whether an person can be trusted to honor future payments.
The second step involves reducing outstanding debt. However, people should try and focus on reducing credit card debt first, as it usually has the highest interest rates. Reducing credit card debt improves credit utilization ratio, a number that represents how much money customers have borrowed compared to available credit. For example, someone who has borrowed $20,000 across all credit cards will have a credit utilization ratio of 0.33 if their total available credit equals $60,000.
Credit utilization ratio only includes credit card debt. Other debt accounts such as mortgages and student loans have to effect on it. However, financial advisors recommend against closing credit accounts even if they have been fully paid, as doing so can lower credit scores.
Following those steps, a person can raise their credit score significantly in less than twelve months. It may take less if the goal was to raise a credit score from 540 to 600 points, which would be enough to waive down payment when purchasing a new vehicle.
Ask your spouse, a family member or relative to become co-signer
In many cases, purchasing a vehicle is a family decision. If a person does not have a good enough credit score to waive down payment on their own, they can rely on family members to get over the threshold. The family member then becomes a co-signer, co-borrower or co-applicant of the car loan. Which name financial institutions give to the second person depends on who they are. Also, this method is only effective if the second person’s credit score is high enough to raise their combined score at or above 600 points.
If the second person is a spouse or partner, lenders usually refer to them as co-borrowers. Their income, assets and credit history will be considered as part of the loan application. They are equally responsible for monthly payments and usually share ownership of the vehicle.
If the second person is a relative, friend or family member other than the spouse, lenders refer to them as co-applicants. The only difference in this case is that, due to not being married or in a partnership, lenders will analyze their financial history separately. If consumers want to maintain sole ownership of the vehicle, they can rely on a co-signer instead. Co-signers do not share vehicle ownership while still being responsible for monthly payments.
The best way to waive down payment without facing significant interest rate raises is by adding a spouse or long-term partner to the loan application. Using someone else, such as a family member or relative may help customers waive down payment, but at the cost of higher interest rates. However, in both cases, the final loan agreement will be more flexible than what lenders would offer without extra financial support.