Financial Reality Check is a Must Before Car Shopping
Before you fill out an auto loan application and buy a car, you need to cross two major financial bridges first. Preparing your finances before you purchase a vehicle will help you save money on the car and its loan or lease.
“First, check your credit score and see where it is and work on getting it up if need be,” says Jean Chatzky, Today show financial editor and author of "The Difference". “Car loans range in interest rates and are very, very dependent on your credit score.”
“So if your score is below 720, you’re going to want to make sure you do whatever it takes to boost it,” Chatzky says.
She suggests keeping your utilization rate, or the percentage of credit you owe compared to how much you have available, below 30 percent. Chatzky also advises consumers to pay their bills on time, pay down their credit card debt as a whole, and stop all applications for credit.
If you find that your credit report has some blemishes on it or your score is lower than expected, Chatzky advises consumers to wait to buy a car if they can and repair their credit first.
Preparing your finances and credit before you visit the dealership can help you save money and get the best auto loan or lease.
“You really need to work on your credit score six months before you go shopping,” she says. “It can take anywhere from six months to a year (to improve your credit score), depending on the problem. These are things that we need to be working on throughout our lives, not just in anticipation of having to borrow a lot of money, because we never know when we’re actually going to need to borrow for some unexpected circumstance.”
Another factor lenders look at is how long you’ve had credit, Chatzky explains.
“The length of your credit history is very important,” she says. “For that reason, being younger hurts you. We encourage people to maintain the relationships with the credit cards that they’ve had for the longest period of time.”
Certain life circumstances can affect your credit score in a positive or negative way. For example, sometimes people who go through a divorce will see changes in their credit score after the divorce is final.
“When you’re going through a divorce, your credit does not have to get damaged,” Chatzky says. “You separate what’s yours from theirs, and make sure that you have credit established in your own name. I would make sure that I check both credit reports. See what’s in your file versus your ex-spouse’s file and make sure they’ve separated it out.”
If you find mistakes, it’s not that difficult to fix, Chatzky says. Write letters to the credit bureaus and ask them to fix the errors.
If your credit was damaged during the divorce process, you can either wait and improve it or buy a car with a higher interest rate auto loan. After a divorce, there’s no specific time period to wait to apply for credit. If your credit was damaged through the process, it depends on how much it was damaged and how much you need the credit, Chatzky says.
“If you need a car to get yourself back and forth to work, you need a car and what you should do is get the best loan you can and in about a year you can refinance that car loan,” she says. “It’s totally possible.”
When looking at your credit score and finding out it’s lower than you’d like it to be, Chatzky (pictured right) says you should look at your expenses and entire budget as a whole.
“If you find that you’re having trouble paying your bills and if you’re having trouble making ends meet, then it could be a bigger problem than just your credit score,” Chatzky says. “You may want to look at credit counseling through the NFCC (National Foundation of Credit Counselors).”
After working on increasing your credit score, Chatzky suggests car shoppers do some homework on their budget.
“Figure out how much you can afford,” she says. “Transportation expenditures should really account for no more than 15 percent of your take-home pay. Transportation is much more than just your car loan. It’s your car loan plus gas, plus insurance, plus parking plus tolls. It’s the whole enchilada. Figure out what you’re looking at in terms of that number. Then start looking at cars that are only in that price range.”
If a new car is out of your price range, Chatzky suggests that buyers check out pre-owned vehicles.
“I’ve always felt that the very best way to get value out of a car is to buy pre-owned and drive it into the ground,” she says. “I wouldn’t let the whole new car smell sway me so much that I wouldn’t look at those pre-owned vehicles.”
Besides checking your credit score and figuring out a basic budget, Chatzky advises car shoppers to keep their financial well-being in sight while going through the auto finance process.
“Let’s make sure that we’re living on less than we make, spending less than we make and that we’re saving every single month,” Chatzky says.
Your debt-to-income ratio, which is how much money you owe compared to how much money you make, should be no more than 36 percent for everyone, she explains.
For car shoppers who are single or couples or families who only have one income right now, Chatzky recommends they keep their budget realistic and also have a financial back-up.
“The most important thing that any person, but particularly any person with children and people who are depending on their income, needs to have is a safety net, and that means savings,” Chatzky says. “I would not take my savings and plunk it down to make a bigger down payment and buy myself into a lower monthly payment. I’d look for a less expensive car.”
After finding out exactly the car budget you can afford, shoppers can then figure out what their needs are as far as the car is concerned, she explains. Consumers should explore both buying and leasing and find out which is better for them. How many miles are you going to drive each year? How will you use the car? If you need to transport things around, a larger vehicle makes sense. If not, can you get by with a smaller car?
“Once you know those things about you, then you can start to shop,” she says. “We get so excited about our first car or a new car that we lose sight of the fact that this is probably the second largest purchase that we’re ever going to make and we need to think about many more things than its color and its style.”
If you’ve never bought a car before or if it’s been a long time since you’ve been in a dealership showroom, Chatzky recommends that you simply pretend to be an expert.
“The first thing you have to do is just act confident,” she says. “If you go in and you act like you’ve never been there before and you don’t know what you’re doing, then you’re going to get treated as if you’ve never been there before and you don’t know what you’re doing.”
“Back that luster up by doing your homework. There’s so much information online these days. You should know what the deals are on that car and the other cars in the category. For anybody to go car shopping without spending an hour or two on the Internet these days is ridiculous.”
By understanding the cost of ownership, car shoppers can get the car that works for them without putting themselves in a bad place financially, Chatzky explains. All vehicles have average gas costs for the year published on the MSRP window sticker or in the owner’s manual, which helps you calculate how much you’ll spend on fuel for the year. Insurance costs should be factored in too and can be found online or by simply calling your insurer, she says.
“Cost of ownership also applies to buying homes,” she says. “It’s not just the cost of the home, it’s the cost of living there.”
Additional Resources
If car shoppers need guidance on how to increase their credit score, Chatzky has developed the Debt Diet Online, which is on her Web site, www.jeanchatzky.com. “The Debt Diet Online is designed to help people pay down debt if they’ve been struggling to do so,” Chatzky explains.
She also recommends www.smartcredit.com for minor credit fixes and mistakes found on your credit report.
