How much down payment do I need for my car loan?
Until recent times, it was standard for car dealers and finance companies to require at least 20% down payment on the purchase of a car. It was for a good reason.
Because cars depreciate in value from the moment they are driven off a dealer’s lot, a down payment helps offset that rapid decrease in value, which may keep the loan from becoming “upside down.” It also protects the loan company or bank because, if they have to repossess the vehicle, they have a smaller risk of losing money. It also protects the car buyer from financial loss if the car is stolen or totaled and the insurance money isn’t sufficient to cover the loan.
Things are different now
Auto manufacturers and dealers are now very competitive and business must be fought for. They are willing to take risks that were unheard of just a few years ago. In many cases, down payment requirements have been reduced or eliminated altogether, primarily for customers with good credit.
Even if you have good credit, accepting a “no down payment” deal is not wise. Because your vehicle will depreciate in value faster than your monthly payments pay down your loan, you will be upside down for most of your loan term. See How Car Loan Payments Work for more details.
So, what is the problem with being upside down?
First, if you decide to sell or trade your vehicle before your loan is paid off, or nearly paid off, you’ll get a nasty surprise. You’ll find that you still owe more on your loan than your vehicle is worth. Maybe thousands of dollars more. You’ll have to find the extra money, in cash, to pay off your loan.
Second, if your car is stolen or totaled in an accident, your insurance pays only what the car is worth, not what you still owe on your loan, which again, could be thousands of dollars difference. In order to pay off your loan after the accident, you must come up with the additional cash on your own.
How much down payment?
A down payment not only helps you avoid the problems of being upside down, but it also serves to lower your monthly payment and the total amount of interest you’ll pay. The amount by which it reduces your payment depends on the amount of the loan, the amount of the down payment, the length (term) of the loan, and the interest rate. You can use an auto loan calculator to play around with the numbers to find out the effect of different down payment amounts.
A good rule of thumb is 20% for a down payment. You can take advantage of manufacturers’ rebates, which can be used as a down payment. If you can’t do 20 percent, do 10% or the best you can.
Of course, if you have a fully paid-for car or have an outstanding loan balance that is less than the trade value of your car, you can trade and use that difference as at least part of your down payment, which reduces or eliminates the amount of cash you’ll pay.
In some cases, especially if you have poor credit, the bank or finance company will dictate how much down payment you must make to get a car loan from them. It’s usually not negotiable. If it’s more than you can pay, try other banks, credit unions, or loan companies.
If you are buying a brand new car, any price discounts by your dealer will reduce the amount of down payment you need to make. So will manufacturer-sponsored rebates or bonuses, which are treated as down payment cash.
If you don’t know your latest credit score, you should know it before going car shopping. You can get your most recent credit score online. What’s your FICO score? Find out now when you check your credit report for $1 at Experian.com!