3 Ways Car Loans Can Go Wrong — and How to Avoid Them

Photo by maxuser / Shutterstock.com

A new car loan can drive your credit ahead, cementing your reputation as a responsible borrower who can be trusted with major responsibility, including the much-coveted mortgage.

But take a wrong turn – even one late payment – and your credit score will sink, making it more difficult — and in some cases nearly impossible — to obtain credit in the future.

The time to guard against making such mistakes is before you sign a loan or even decide exactly which vehicle to buy.

So first consider these auto loan pitfalls to protect your credit. Then visit the Money Talks News Solutions Center, where you can search for car loan rates based on your needs and credit.

Unsure of your credit score? You should know it before applying for any type of loan, and you can get it for free from Credit Sesame.

1. Forgetting to factor in loan costs

While some advocate paying cash for vehicles, an auto loan is a great way to build credit — if it’s done right. Many auto buyers spend too much on loans because they look at the monthly payments, not the total cost of the car — including loan interest and finance charges.

Savvy borrowers shop for auto financing from credit unions, banks and other respected online lenders before they begin serious negotiations on a specific car. Knowing the total cost of your loan before signing on the dotted line is key to ensuring you don’t fall behind in payments or carry so much debt that lenders consider you a high risk.

2. Getting upside down on a loan

Long-term loans may make sense for those who can reasonably expect financial stability. But what if you buy a car based just on what you can pay on your current salary, and then you’re laid off? You may need to sell your car even though it has depreciated and is worth less than you owe on the loan. That’s called being upside down on your loan.

“There is no silver bullet that will magically get rid of the negative equity,” write Edmunds senior consumer advice editors. “Your options are to deal with the situation either now or later.”

To help reduce your odds of getting upside down, follow the 20/4/10 rule suggested by Interest.com and others:

  • Make a down payment of at least 20 percent.
  • Finance a car for no more than four years.
  • Don’t let your monthly vehicle expense — including principle, interest and insurance — exceed 10 percent of your gross income.

That way you’ll build credit without carrying an unwieldy amount of debt and have options if your financial situation changes.

3. Rolling over a loan without first doing the math

A common method for dealing with negative equity is to buy another car and finance it by rolling the amount currently owned into the new loan, according to Edmunds. Incentives could reduce the balance on the existing loan or even erase the negative equity, but the tradeoffs may not be worth it for everyone.

Edmunds’ example: “If a person was $1,500 upside down on the trade-in car and wanted to buy a new car that had a $2,500 rebate, he or she could erase the negative equity and still have $1,000 for a down payment on the new car. Note, however, that cars with heavy incentives tend to have lower resale value for at least three years, according to Edmunds pricing analysts. This means you will be upside down for a longer period of time.”

What’s your experience with financing car purchases? Share with us in comments below or on our Facebook page.

Disclosure: The information you read here is always objective. However, we sometimes receive compensation when you click links within our stories.

Read Next
This Type of Social Security Benefit Is Often Overlooked
This Type of Social Security Benefit Is Often Overlooked

The Social Security Administration is not helping certain people get money to which they are entitled, a report says.

36 Things That Will Be Obsolete Soon
36 Things That Will Be Obsolete Soon

The writing is on the wall for dozens of things we have grown up with.

7 Secret Perks of Individual Retirement Accounts
7 Secret Perks of Individual Retirement Accounts

IRAs come with bells and whistles that many other accounts lack — including some perks you may not know exist.

15 of the Fastest-Growing Jobs Today
15 of the Fastest-Growing Jobs Today

Times are tough, but these career fields are thriving.

8 Things You Can Buy for $1 or Less on Amazon
8 Things You Can Buy for $1 or Less on Amazon

They say you get what you pay for — but not always. Sometimes, you can uncover a good deal at a great price.

View this page without ads

Help us produce more money-saving articles and videos by subscribing to a membership.

Get Started

Most Popular
20 Things That Are Actually Worth Stockpiling
20 Things That Are Actually Worth Stockpiling

You don’t need a year’s supply of toilet paper to survive an outbreak, but consider stocking up on these items.

Can a Twice-Divorced Woman Claim Social Security Survivors Benefits?
Can a Twice-Divorced Woman Claim Social Security Survivors Benefits?

Understanding survivors benefits rules is the key to getting the most from your benefit.

9 Things You’ll Never See at Costco Again
9 Things You’ll Never See at Costco Again

The warehouse store offers an enormous selection, but these products aren’t coming back.

These Are the 10 Worst Cars for Depreciation
These Are the 10 Worst Cars for Depreciation

Two types of vehicles are especially likely to see steep plunges in value.

11 Senior Discounts for Anyone Age 55 or Older
11 Senior Discounts for Anyone Age 55 or Older

There is no need to wait until you’re 65 to take advantage of so-called “senior” discounts.

Never Buy These 10 Things With Your Credit Card
Never Buy These 10 Things With Your Credit Card

Credit cards offer many conveniences and protections, but sometimes it’s simply smarter to keep the plastic tucked away.

13 Amazon Purchases That We Are Loving Right Now
13 Amazon Purchases That We Are Loving Right Now

These practical products make everyday life a little easier.

10 Things I Always Buy at Trader Joe’s
10 Things I Always Buy at Trader Joe’s

From snacks to sweets to side dishes, stock your cart with these time-tested favorites on your next TJ’s run.

8 Surprising Household Items You Can Sell for Fast Cash
8 Surprising Household Items You Can Sell for Fast Cash

Sometimes, the humblest household items are worth the most money.

5 Ways Social Security Will Change in 2021
5 Ways Social Security Will Change in 2021

These adjustments will affect both workers and retirees in the new year.

Cut These 11 Expenses Now If You Hope to Retire Early
Cut These 11 Expenses Now If You Hope to Retire Early

Like the idea of financial independence? Part of the FIRE equation is cutting costs.

11 ‘Disposable’ Items You Should Be Reusing
Stop Buying These 19 Things Online
Stop Buying These 19 Things Online

The internet has changed how we shop. But for some things, you’re still better off buying the old-fashioned way.

8 Things You Should Buy at Restaurant Supply Stores
8 Things You Should Buy at Restaurant Supply Stores

You don’t have to be a chef or a restaurant owner to shop here.

19 High-Paying Jobs You Can Get With a 2-Year Degree
19 High-Paying Jobs You Can Get With a 2-Year Degree

There are easy high-paying majors available in the U.S. — and no bachelor’s degree is required. We’re here to help you find easy degrees that pay well.

3 Ways to Get Microsoft Office for Free
3 Ways to Get Microsoft Office for Free

With a little ingenuity, you can cut Office costs to zero.

7 Tips for Building an Emergency Food Supply
7 Tips for Building an Emergency Food Supply

A pandemic or natural disaster could leave you reliant on your existing emergency food supply. Is your pantry well-prepared for emergencies? Knowing what to stock up on for emergencies can be a difficult task and we’re here to help.

These Are the 4 Best Medicare Advantage Plans for 2020
These Are the 4 Best Medicare Advantage Plans for 2020

Medicare Advantage customers themselves rate these plans highest.

11 Things Retirees Should Always Buy at Costco
11 Things Retirees Should Always Buy at Costco

This leader in bulk shopping is a great place to find discounts in the fixed-income years.

View More Articles

View this page without ads

Help us produce more money-saving articles and videos by subscribing to a membership.

Get Started

Add a Comment

Our Policy: We welcome relevant and respectful comments in order to foster healthy and informative discussions. All other comments may be removed. Comments with links are automatically held for moderation.