When it’s time to get another car loan and you know your credit’s not so hot, it’s time to take action! There’s no need to panic about how you’re going to get another vehicle, you just need to know what lenders look for when they determine whether or not you can afford an auto loan. When you're setting up your budget for a bad credit car loan, you can perform these two calculations auto lenders use to get a better idea of if you qualify.
Before You Start Budgeting
The first thing you need to do is understand where your credit stands. Get both your credit score and your credit reports – lenders look at both when evaluating your application.
Knowing what’s on your credit reports and what your credit score is can help you determine which type of lender to apply with. Plus, this helps when you research what the average car loan interest rates are for people in your credit range.
It’s important to know the average interest rates for your credit range so that you know what to expect, and what to budget for. It also helps when you’re using auto loan calculators online. When you have bad credit, you’re looking at a higher interest rate, but just how high depends on your lender and your individual situation.
The higher your interest rate, the more your car loan is going to cost overall. You should also know that if you’re using online tools, you can adjust the loan term. A longer loan term lowers your monthly payment, while a shorter term raises the payment.
Be aware, however, that interest charges accrue daily, based on the loan balance. So, even though the payment is lower for a longer-term loan, you’re going to end up paying more in the long run due to interest charges.
Break Down Your Budget Like a Pro
Lenders go through a number of calculations when they’re deciding if someone can afford a loan. During this process, they compare your gross (pre-tax) monthly income to your monthly bills, including an estimated auto loan and insurance payment.
They do this to see if you have enough available income to comfortably afford the loan payment. If your existing payment obligations already take up more than 45% to 50% of your gross monthly income, chances are you’re not getting approved.
There are two calculations the lender does to determine if you can financially handle a car loan: the debt to income (DTI) ratio and the payment to income (PTI) ratio. The math it takes to do these is simple, and calculating them yourself can help you get a feel for a realistic payment you can afford for your next vehicle.
Let’s take a look at the numbers:
- DTI Ratio – To figure out how much of your gross monthly income is available, simply add up all your monthly payments, including an estimated auto loan and insurance payment, and divide the total by your pre-tax monthly income. The resulting number is your DTI percentage. Remember, bad credit lenders generally don’t approve car loans if more than 45% to 50% your pre-tax income is already being used.
- PTI Ratio – For this calculation, you can see what percentage of your budget is going to be dedicated to just your vehicle payment. Lenders don’t like a car payment that’s more than 15% to 20% of your gross monthly income, but the lower the better. You can find out what 15% to 20% of your monthly income looks like by multiplying your pre-tax income by 0.15 and then by 0.20. You should strive for a monthly payment below this number. Remember, if you have to stretch your loan term out to six, seven, or even eight years (96 months) to reach your ideal loan payment, you may need to look for a more affordable vehicle.
The Car Connection Tip: Auto loans are much more than the selling price of the vehicle you’re looking at. Don’t forget to budget for all the necessary expenses of car ownership like fuel, maintenance, taxes, and title and license fees. It’s also good to know that you’re usually required to make a down payment if you have poor credit. The amount needed varies by lender, but subprime lenders typically ask for $1,000 down or 10% of the vehicle’s selling price, whichever is less.
Where to Get Your Next Car Loan
Now that you know how to plan a budget for your next auto loan, you need to make sure you’re working with a lender that can handle your credit situation. Subprime lenders specialize in working with people in all kinds of challenging credit situations, and are typically the best bet for bad credit borrowers.
The catch is that subprime lenders only work through special finance dealerships, and it can be hard to pick out these dealers from the crowd. But that’s where we come in.
Here at The Car Connection, we work with a nationwide network of special finance dealerships that are ready to help you get financed for your next vehicle. To get the process started right now, simply fill out our quick, free, and easy car loan request form, and we’ll get to work matching you with a local dealer.