How Much of a Down Payment Should You Make on a Car?
Posted by Frank Gogol in Loans | Updated on May 30, 2023
Making a down payment is a necessary step when you want to finance a car – no matter if it’s new or used. However, not many people know how much of a down payment for a car they should make.
The down payment will influence the monthly rates, as well as the amount you will pay in interest. So, how much down payment is ideal? Let’s find out!
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Understanding Car Down Payments and Why They Matter
Why does one need to make down payments on a car? After all, you will pay off small amounts every month and a car is not as expensive as a real estate property. However, a down payment is more important than you could imagine.
Here are a few reasons why down payments matter so much:
Improving Your Chances of Approval
When you have a low credit score or have no credit at all, it can be hard if not impossible to qualify for a car loan. Most lenders will not even look at you if you do not have a decent credit score, and if a loan is your only way of affording a vehicle, not being approved can completely shatter all your hope.
However, making a larger down payment can significantly boost your chances of approval when you apply for an auto loan. As a result, you may have access to better rates and may be able to get better terms.
The good news is that individuals with low credit or no credit might be able to make a smaller down payment, usually of 10% or $1,000, depending on which one is lower.
Get a Lower Loan-to-Value Ratio
Lenders all have unique rules when it comes to the loan-to-value ratio for loan approval. A lot of them have a maximum amount for how much an individual is allowed to borrow compared to the car’s value, and the loan will be secured by the vehicle’s value. By making a small down payment, you might be unable to reach the LTV ratio requirement of the lender, but if you make a larger payment, you have higher chance of reaching it.
The LTV ratio is also used as a loan risk measurement by various lenders. If the amount you borrow does not exceed the value of the car, the lender will be less likely to lose cash in case you default on the debt.
Have Lower Monthly Car Loan Payments
Even if you can afford to pay off your loan every month, it is always best if those rates are lower.
It might cost you more in the beginning, but making a larger down payment can actually save you later when it comes to making monthly payments. The higher the amount you pay, the lower the monthly rates. In fact, your monthly payment can decrease by $15 – $18 with every $1,000 you put down.
Get a Lower Interest Rate
Interest rates are the most feared aspect of a loan. While the monthly payment itself can be a great burden, interest makes everything worse – particularly when it’s extremely high.
Fortunately, you can enjoy a lower interest rate if you put down a larger amount of money. On top of the better interest, you might also be able to get a shorter term. The lender will see you as a lower-risk borrower and might be willing to offer you extra features on the loan.
Can You Buy a Car with No Down Payment?
Perhaps you are not in the best financial situation right now, or you simply do not want to make any down payment. Can you still buy a car in this case?
You might be able to purchase a vehicle without making a down payment, but the drawbacks greatly outweigh the benefits. Now, it depends on how good your credit score is. If your credit is excellent, then you can enjoy “zero down” loans. If you’re on the other side of the spectrum with a less impressive score, things don’t look as good for you.
Without a down payment, you can’t redirect any money toward the purchase from the get-go. Unfortunately, this move can quickly lead to you going underwater. You will have to borrow a higher amount from your lender and deal with increased monthly payments and interest rates. You will also get a longer repayment term.
5 Ways to Protect Yourself When Buying a Car with No Down Payment
Are you planning to buy a vehicle with no down payment but you’re scared of the potential consequences? Here are some ways you can protect yourself in this situation:
1. Getting a Cosigner
A cosigner will be a trusted person with good credit who will take responsibility for the loan alongside you. If you fail to make payments, the cosigner will become responsible.
2. Go for Gap Insurance
Gap insurance can be useful if you want to prevent having to pay off any negative equity in case you go underwater.
3. Opt for Loan Refinancing
Refinancing is a good way to get better terms and fees on a loan if they are expensive. This should only be considered if your credit got better and you can get good rates on the new debt.
4. Purchase a Cheaper Car
A good way to reduce the amount you need from a loan is by going for a less expensive car. Older models are great in this situation.
5. Trade Your Old Vehicle
Trading another car for the new one may count as a down payment when you want to finance your new vehicle.
Car Down Payment FAQ
Let’s take a look at some common questions people have about down payments for a car:
What is a good payment on a car?
Generally, you do not have to pay any set amount of money on a down payment. However, the more you pay, the better your terms will be. 20% is considered an ideal down payment, but there might be lenders who only require a minimum of 12% for new cars. For used cars, a minimum down payment would be 9%.
What are the ways to make a down payment for a car?
Cash or an equivalent is the most popular way to make a down payment for a car. It is also possible to trade in an owned vehicle or use a credit card, money order, or personal check.
Can you buy a car with no money down?
You can buy a car with no money down, but it is not recommended. It can result in longer repayment terms, higher monthly payments, and higher interest rates.
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Down payments on a car are important if you want better auto loan rates. So, evaluate your budget and see if you can pay more from the get-go – it might give you lower monthly payments and interest rates.