Having a down payment is a great way to lower the overall cost of your auto loan. Since just about everyone’s credit and financial situation is different, it’s important to know just how big of a down payment you may need. Each lender may have a different minimum down payment requirement, but knowing what to expect ahead of time makes the car buying process smoother.
How to Come Up with a Down Payment
Just how do you come up with a reasonable down payment? It’s easier than it may seem. You don’t have to only pay out of pocket, in fact, you have three options to choose from when it comes to putting money down on your car loan:
- Out of pocket – You can come up with the money out of pocket and use your own cash. Make sure you have enough money saved up to cover a down payment and budget accordingly.
- Trade equity – You can trade in your old vehicle and apply any equity (or its entire value if it's paid off) as a down payment. Having equity means your car is worth more than the amount you owe on the loan. If you have a trade-in with equity, you can use any or all of the equity as a down payment. But if your vehicle is worth less than what you owe, you have negative equity. This is also called being “underwater” or “upside down” on your loan, and some lenders may not allow you to trade in a car with negative equity.
- Combination – If your trade-in doesn’t cover the down payment requirement, or you want to increase your down payment, you can combine your own money out of pocket and trade-in equity.
Down Payment Requirement to Expect
Now that you have your down payment ready, what’s next? Well, it’s not that simple. No two lenders are exactly the same, what one lender requires may be completely different from another. If you have good credit, you won’t be required to put as much – or any money – down in some cases. But if you have poor credit, you’ll probably need to find a subprime lender to work with, and they may have a higher minimum down payment requirement. Regardless of your credit, down payments can have a great impact on your auto financing options.
Subprime lenders typically ask a buyer for a $1,000 down payment or 10 percent of the vehicle’s selling price, whichever is less. This minimum may not apply to every subprime lender and, depending on the structure of the loan, they may choose to increase or decrease their requirements.
Sometimes called “borrower participation,” the reason why subprime lenders require money down is because this shows them that the buyer is serious about paying back the loan. Zero down car loans aren’t usually an option in subprime financing, but the good news is that a down payment ends up helping you down the road by saving you money on interest over the course of the loan.
The Bigger, the Better
If you can put more money down than the minimum required, we highly recommended you do this. The fact of the matter is larger down payments come with more benefits than drawbacks – especially when you have less than perfect credit. A down payment does three things to help you out:
- Decreases the amount borrowed, which helps your chances of getting approved.
- Lowers monthly payments and the total amount of interest charges you'll pay, so you save money in the long run.
- Can give you the option to shorten the loan term and pay it off quicker. While shortening the loan term increases your monthly payment amount, it decreases the overall cost of financing by reducing the interest charges.
For example, let's say you plan to finance a new car and your situation is as follows:
- Vehicle’s Purchase Price: $20,000
- Down Payment: $1,000
- Interest Rate: Five percent
- Loan Term: 60 months
- Sales Tax Rate: Six percent
Your total interest paid would be $2,671 and your loan amount would be $20,200. But, if you apply a trade-in in addition to the down payment – let’s say another $1,000 – your total interest decreases to $2,531 and your loan decreases to $19,140. That’s a difference of $140 in total interest and $1,060 on your loan.
It Pays to be Prepared
Don’t feel discouraged by a down payment requirement when it’s time to buy a car. Remember, a down payment is there to help you in the long run, not hurt you.
If you’re ready to take the plunge and buy a vehicle, let The Car Connection lead the way with our nationwide network of special finance dealerships. With our simple auto loan request form, we want to connect you to a local dealer that can help, even if you’re dealing with less than perfect credit. Get started today!