ôô

10 Things First-Time Car Buyers Should Know

Ready to get your own set of wheels? Laura covers ten things first-time car owners need to know. You'll learn the pros and cons of buying versus leasing, how to get the best deal possible, and ways to pay for your new ride.

By
Laura Adams, MBA
9-minute read
Episode #698
The Quick And Dirty

10 Things First-Time Car Buyers Should Know

  1. Never go car shopping until you know what you can afford.
  2. Your credit plays a significant role in your monthly payment.
  3. Car reviews are critical to consider.
  4. Research car loans to find the best offer.
  5. Always avoid getting upside down on a car loan.
  6. Know the differences between buying and leasing a car.
  7. Buying a used car requires due diligence.
  8. Expect to negotiate your car purchase or lease.
  9. Understand what it means to cosign a car loan or lease.
  10. Shop for auto insurance as soon as possible.

If you're thinking about buying or leasing your first car, you may not know exactly where to start. While you may want to head straight for a dealership, that's typically not the best first move.

In this post, we'll cover ten things first-time car owners need to know about the pros and cons of buying versus leasing, how to get the best deal possible, and ways to pay for your new ride.

1. Never go car shopping until you know what you can afford. 

Before you start shopping for a car, it's critical to decide how much car you can afford. A good rule of thumb is to keep your car payment at no more than 10% of your net pay. So, if your take-home pay is $3,800 per month, your car payment shouldn't exceed $380.

You can get help crunching the numbers by using a Car Loan Payment Calculator. Input different terms and loan amounts to see how it affects your payment. But remember that you'll also have other expenses to cover, such as fuel, power, insurance, and maintenance not covered by a warranty.

ALSO READ: 8 Best Budgeting and Personal Finance Tools

2. Your credit plays a significant role in your monthly payment.

Once you have a price range in mind for your vehicle, checking your credit is a good idea. Auto lenders rely on credit when setting your loan's interest rate offer. The better your credit, the lower your interest rate will be.

If you have no or poor credit, you may get turned down for a loan or get quoted a relatively high interest rate. With a higher interest rate, you'll have higher monthly payments. That means you may need to buy or lease a less expensive vehicle or save up enough cash to avoid taking out a loan altogether.

Auto lenders rely on credit when setting your loan's interest rate offer. The better your credit, the lower your interest rate will be.

And if you have good or excellent credit, you'll qualify for competitive interest rates and lower monthly payments. So, if your credit isn't in good shape right now, it's worth waiting to get a car loan or lease until you build or rebuild it.

3. Car reviews are critical to consider.

While you might be dreaming about buying or leasing the best-looking car, be sure to browse reviews on popular automotive sites. Vehicles have different ratings based on features such as safety, reliability, resale value, gas mileage, recalls, and handling.

Make sure a potential vehicle will fit your priorities, such as having enough room for the entire family, being comfortable on long trips, or compact enough for city driving. In general, the longer you can keep a car, the better. So be as mindful of your current and future driving needs as possible.

Compare features and prices of different makes and models that interest you and build a test-drive list. If you're considering a used vehicle, look up their values at online sites like Kelly Blue Book and Edmunds.

4. Research car loans to find the best offer.

To get the best rate on a car loan, you need to do your homework. While you can apply for dealership financing, check with your bank or credit union first to see what APR you can get.

Credit bureaus don't penalize your credit when you're shopping around and comparing rates for a new credit account.

Also, shop and compare car loan interest rates using online lenders. To save the most money on finance charges, shop for the shortest loan term you can afford, which reduces the amount of time you pay interest.

As I mentioned, if your credit is poor, you may be able to get a car loan, but at a higher cost. You may find that credit unions are more lenient than traditional banks and will offer more competitive loans even when you have poor credit. However, you must be a member to use their services.

Credit union membership requirements vary depending on the institution and sometimes can be as simple as making a one-time, low-cost donation to a charity supported by the credit union. To find one, check out Finder.com's list of the best credit unions or visit ASmarterChoice.org.

Once you're ready to buy a car, get a loan pre-approval. You must submit personal information such as your Social Security number and salary information so the lender can review your credit and financial history. If you get preapproved, you'll know the maximum amount you could borrow and your interest rate. 

If you're worried that multiple hard inquiries from lenders will hurt your credit, don't be. If the inquiries occur within a short period, such as two to three weeks, they typically get treated as one inquiry. In other words, credit bureaus don't penalize your credit when you're shopping around and comparing rates for a new credit account.

5. Always avoid getting upside down on a car loan.

Within the first year of ownership, the average new car depreciates about 20%. If you take out a loan and end up owing more than the car is worth, that's called being "upside-down."

Consequently, if you decide to sell the car before paying it off, you'll have to make up any difference between the sales price and the remaining loan balance. So, no one wants to be upside down on a car loan and owe more than it's worth.

To avoid getting upside down, you can pay a larger auto loan down payment, such as 20% or more. For instance, if a car costs $40,000, try to put down $8,000. In addition to giving you more vehicle equity, it reduces your monthly payments or allows you to shorten the loan repayment period.

Also, consider buying a vehicle that holds its value, so it's worth more if you decide to sell it. And if you can pay cash for a car, you'll avoid owing years of interest payments on an auto loan. That could save you thousands of dollars, depending on your loan amount and rate.

6. Understand the differences between buying and leasing a car.

When you lease a car, you sign a contract that allows you to drive it for a period, such as three or four years. It's less common than buying but has become more popular with the rising cost of vehicles.

You never build equity in a lease deal, so you don't need to make a large down payment like a car loan. Any down payment you make should be the minimum amount, which is typically 10%.

For instance, say you lease a $45,000 vehicle that will be worth $20,000 in three years when your lease expires. The $25,000 depreciation, minus any down payment, is used to calculate your monthly lease payments.

So, instead of paying a retail price, you only pay for the estimated depreciation of a car during a lease. That's why it costs less to lease a vehicle than to buy it.

Other than depreciation and any down payment, other factors that determine the monthly payment on a lease include the:

  • Lease term
  • Vehicle's retail price
  • Your credit
  • Dealer fees
  • State and local taxes

Like with a car loan, the better your credit, the better your terms will be. If you have poor credit, you may have to pay a larger down payment and monthly lease payments.

Since not all cars depreciate equally, it's always best to lease a vehicle that holds its value.

Since not all cars depreciate equally, it's always best to lease a vehicle that holds its value. Edmunds and TrueCar are good resources for researching vehicle prices and depreciation rates. At the end of your lease contract, you can return the car to the dealership or opt to purchase it for its depreciated value, also known as the residual value.

Here are the pros of leasing a vehicle:

  • It's typically more affordable than buying
  • Major repairs are covered (unless your lease exceeds the warranty)
  • You can drive a new car with the latest safety features every few years
  • You avoid the hassle of trading in or selling a vehicle

But consider the following cons of leasing:

  • You don't build equity
  • You must pay for damages or excessive wear and tear when the lease ends
  • You must pay for mileage overages, such as if you drive more than 10,000 to 12,000 per year
  • Breaking a lease comes with hefty fees 

While leasing can be a wise move depending on your finances, goals, and lifestyle, let's review the pros of buying a car.

When you own a vehicle, you can:

  • Customize it
  • Trade it for another vehicle
  • Sell it
  • Drive it as much as you like
  • Pay off a loan and continue to drive it

Some cons of owning a car include:

  • Making a down payment is typically required
  • Paying higher monthly payments compared to leasing
  • Getting upside down on the loan 
  • Being responsible for repair costs after a warranty expires

7. Buying a used car requires due diligence.

You may decide that you don't want to buy a brand-new car. Getting a used vehicle that's already depreciated can be a great way to save money. Many dealers offer certified pre-owned or CPO vehicles. They've been thoroughly inspected, have low miles, and carry an extended manufacturer warranty.

If you buy a used vehicle from a dealer, they may provide a free car history report. However, if you buy a car from an individual, be sure to purchase a vehicle history report using a site like Carfax or AutoCheck. Look for discrepancies in what a dealer or private party reports about a vehicle and consider them red flags.

Also, always have a car sold by an individual inspected by an outside mechanic before buying it. It might cost a few hundred dollars but is worthwhile if a mechanic uncovered a potentially costly issue.

8. Expect to negotiate your car purchase or lease.

Whether you decide to lease or purchase your first vehicle, you should expect to negotiate the deal. Remember that just because you got preapproved for a specific loan amount doesn't mean you should spend the maximum.

Use these tips to get the best purchase deal possible:

  • Focus on the price of the car, not the payment. If the car salesperson asks what you want your monthly payment to be, tell them that you only want to discuss the car's purchase price.
     
  • Bring information about the best purchase price you found for a vehicle. Show the salesperson your research and say, "If you can beat this price, I'm ready to make a deal."
     
  • Know the trade-in value of your vehicle. If you have a car to trade in for a purchase, make sure you have a reasonable price in mind so a dealer can't offer too little.

Here are some tips for negotiating the best auto lease:

  • Focus on the total cost of the lease, not the payment. The gross capitalized cost is the amount you pay for a lease. The salesperson may ask you what payment you would like, but like with buying a car, the entire cost matters.
     
  • Ask for a higher mileage allowance. Remember that if you exceed a lease's mileage, you'll have to pay an overage fee. So, try to negotiate extra miles for free.
     
  • Request a lower interest rate. Don't be afraid to push for a lower interest rate to save money if you have excellent credit.
     
  • Ask to waive future fees. The dealer charges a disposition fee when you return a car at the end of a lease. Ask them to waive it to sweeten the deal.
     
  • Discuss the buyout price. If you're considering buying a vehicle at the end of a lease, let the salesperson know. It's possible to negotiate a lower price than the anticipated market value of the car.

9. Understand what it means to cosign a car loan or lease.

If you can't get approved for a car loan or lease on your own, consider asking a family member or friend with good credit to cosign for you. Be aware that the loan or lease payment history gets reported on both your credit reports. So, making payments on time benefits both your credit scores.

However, if you fail to make payments on time, it damages both your credit scores. And if you default on a loan or lease, the lender will hold both of you responsible for the entire debt. So cosigning is a financial move no one should take lightly.

10. Shop for auto insurance as soon as possible.

If you already have car insurance, update the coverage as soon as possible after buying or leasing a car. Most policies include a grace period, such as 30 days, when any new, used, or leased car is covered automatically. Since your vehicle make and model affect your auto insurance premium, your rate could go up or down.

However, when buying or leasing your first car, you must purchase auto insurance before driving your new car home. Since you don't have a retroactive grace period, driving without insurance would put you at serious financial risk.

If you buy or lease a car from a dealership, it may offer guaranteed asset protection (GAP) insurance. It pays the difference between the amount you owe on your loan or lease and the value the insurance company places on your car. In other words, it protects you from the financial risk of being upside down on a vehicle.

Once you've reached a deal, signed the paperwork, and have insurance, take the keys and enjoy your new car!

About the Author

Laura Adams, MBA

Laura Adams received an MBA from the University of Florida. She's an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura's previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.