Buying a Car with a Poor or No Credit History
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If you’re buying a new car and planning to finance it — that is, purchasing it via an auto loan — your credit history will play a large role in how much you spend. Lenders view credit scores as a way to measure a borrower’s trustworthiness. Generally speaking, the higher the credit scores, the more reliable you appear to lenders, which will likely translate into a lower interest rate and better loan terms.
So, for borrowers with a poor credit history or for those who have no credit history to speak of, purchasing a car may pose some difficulties — or prevent you from being approved for a loan altogether. What do you do if you find yourself in one of these situations and need a new car? Luckily, you are not without hope.
If you have little to no credit history
Trying to build a credit history when you have none can feel like a catch-22: Every time you try to open a new line of credit you are told your lack of credit history is prohibitive. Financing a car is generally one of those situations in which having no credit history makes you a riskier borrower for lenders. Therefore, many may offer you a high interest rate to compensate for your lack of credit history.
There are several ways to get around these limitations and begin building up your credit history by making monthly payments on a new car.
- Shop around for loans. Some lenders have options designed for students or young people who naturally have little to no credit history. If you fall into this category, do some research, begin shopping around for lenders and be sure to ask specifically about loans geared toward borrowers like you.
- Find a cosigner. A cosigner with good credit scores can ease the approval process by putting their name on your auto loan, thus agreeing to assume equal responsibility for the debt. Just be aware that if you find someone willing to cosign your loan, such as a family member or close friend, it’s vital that you stay up to date on your payments. If you fall behind, it’s not just your credit history that will suffer, and your cosigner will find themselves on the hook for whatever you owe.
- Pay more up front. If you’re able to afford it, making a large down payment may allow you to avoid high interest rates on a car loan. Paying more up front will reduce the total amount you pay in interest over time, and you’ll have a better chance of being approved by a lender.
If you have a poor credit history
The suggestions above — making a large down payment, finding a cosigner and shopping around for special loan options — also apply if you have a poor credit history. Here are a couple of other avenues to explore.
- Credit unions. Credit unions are members-only financial institutions that are known to offer favorable terms and low interest rates for auto and other types of loans. Although you would have to become a member in order to access the benefits, credit unions frequently work with borrowers with poor credit histories and can, therefore, be a viable alternative to a traditional bank.
- Buy-here-pay-here dealers. This lending option is exactly how it sounds: dealers that not only sell cars but also finance them. Because the decision on whether to approve your loan falls on the same company that is profiting from your purchase, these dealers are often more flexible in terms of credit requirements. However, you should be aware of several pitfalls. Buy-here-pay-here dealers may charge higher interest rates than other lenders and often require you to make your monthly payments in person at the dealership.
What if my credit scores improve over time?
If you purchase a car when you have a poor or limited credit history and your situation improves over time, you may be a good candidate for refinancing. Refinancing refers to the process of taking out a new loan with a lower interest rate and/or more favorable terms and using that new loan to pay off an existing loan. You’ll then be left paying back a debt with a lower interest rate, meaning you’ll spend less money over the life of the loan.
If your credit scores have increased significantly from the time you first purchased your vehicle, the loan terms you get via refinancing are likely to be much better than what you’ve been paying previously. Borrowers who had a cosigner on their original loan may also be able to remove the cosigner after refinancing.