How Your Credit Score Determines Your Car Payment
One of the first pieces of advice any article on car buying offers is to pull your credit report. This enables you to see what finance companies will find when they do so during the processing of your loan application.
Knowing what your record looks like up front gives you the opportunity to correct any mistakes it might contain. This is important because the information comprising your report determines your credit score, which in turn can have a profound effect upon your car loan.
Here's how your credit score determines your car payment.
Most lenders consider a good credit score to fall between 700 and 749 on a scale where 850 is the maximum. A good credit score means you'll almost always be approved for a loan - all other things being equal (more on that below).
With that said, anyone with a steady job, sufficient income and a debt-to-income ratio indicative of their ability to make a car payment can usually get an auto loan. The difference lies in the interest rate you'll pay to get that loan.
How Big Can the Difference Be?
According to US News & World Report the average auto loan rates for January of 2020 - based upon the credit score of the borrower - are as follows:
Credit Score New Car Loan Used Car Loan Refinance Car Loan
750+ 4.93% 5.18% 4.36%
700 - 749 5.06% 5.31% 4.97%
650 - 699 11.30% 11.55% 7.82%
450 - 649 17.93% 18.18% 16.27%
449 or less 25.05% 25.30% 19.47%
Source: US News & World Report - January 2020
As you can see, there is a huge difference between what someone with a credit score of 750 can command vs. someone whose score is 449 or less.
Let's say you've settled upon a new car that costs $30,000 and you have a $6,000 down payment. Further, let's assume you'd like to finance the car over a period of 60 months.
Plugging those numbers into a car loan calculator you'll find your monthly payment would be $452.14 at 4.93 percent. Meanwhile, your monthly payment would be $705.14 at 25.05 percent - for the exact same car, with the exact same down payment, over the exact same amount of time.
According to Experian, one of the three leading credit reporting agencies in the U.S, the average American's credit score is 703. This means they could expect to see a monthly payment of approximately $453.57 based on the rates above.
The $1.03 monthly difference between what someone with 750 or better would pay and someone with a 703 would pay comes to $61.80 over the life of the loan. However, it comes to an almost unbelievable $15,094.20 difference for someone whose credit score is 449 or less. That's the price of a nice used car.
How Can This Be?
Lenders always think in terms of risk vs. reward. The greater the perceived risk, the higher they expect the reward to be. Writing you a car loan is looked upon as being more of a risk if your credit score is lower than the average.
They're still willing to do the loan. After all, the car is going to be held as collateral. However, their goal is to earn as much money from the investment as soon as possible on the chance that you might default somewhere down the line. That higher interest rate gives them the ability to maximize their earnings before the loan goes awry.
That's basically how your credit score determines your car payment. While it isn't the only factor - the others include the loan amount, interest rate and length of your loan term - it is a rather significant element.