Buying and Insuring a Car With No Credit

Buying and Insuring a Car With No Credit

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So, you want to buy a car but have no credit history? You're not alone. About 26 million Americans are considered "credit invisible," while another 19 million have credit files that are so thin or outdated they're considered "unscoreable."

If you're in one of these credit categories, your car financing options can be pretty narrow. For most people, these are the choices available:

Even after you've purchased the car, it can be a challenge to get auto insurance without a decent credit history. Learn more about how to buy a car and find the best car insurance rates without credit.

Save Money and Pay Cash

If you have the time and patience, the best plan may be to wait and save up until you can pay cash for the car. After all, the best auto interest rate is 0%. If you have cash, you'll be able to buy from a private seller, who might give you a better price.

Of course, waiting isn't an option when you need to buy a car to drive to work or school. If that's the case, and you don't have thousands in cash on hand, you'll need to finance.

Get a 'Subprime' Auto Loan

If you have no credit history and need to buy a car immediately, you'll need to look for financing in the subprime market. Subprime and no-credit applicants, considered by lenders to be higher risk, routinely pay higher interest rates than borrowers who have established credit histories.

This is because default rates are were as high as 8 percent in the subprime car market last year, and climbing. Expect to have a higher down payment requirement and interest rate than other borrowers. The average subprime borrower is paying an interest rate over 16 percent. If you're financing an older car, or one with high mileage, you'll likely pay even more.

Choosing the Car. Generally, the older the car, the bigger the down payment that's required. Subprime lenders may require 20 percent to 30 percent down. And banks and credit unions may be unwilling to lend on cars older than 10 years or above certain mileage thresholds.

Tip: Look for a loan that has no prepayment penalty. That way, as your credit improves, you will have the option of refinancing your loan—which could potentially save you hundreds of dollars per month.

Get Preapproved

Getting preapproved for an auto loan helps you understand exactly how much car you can afford to buy. Plus, it improves your bargaining position with the seller.

To get preapproved, make an appointment with your bank or credit union's branch or credit manager, and apply at their desk. The manager will be able to explain all your options when you have limited or no credit history.

If you do get turned down for the loan, your banker may still be able to help by setting you up with a "starter" loan, secured credit card or other credit-building tool. Forming a personal relationship with the banker is also a benefit. For these reasons, it's often better to apply in person, even if your bank or credit union lets you apply online.

What You'll Need

Bring the following documents to the bank or credit union:

  • A recent pay stub from your employer, ideally showing year-to-date earnings
  • If you're self-employed or have irregular income, bring three months' worth of bank statements
  • Phone bill and other utility bills
  • References from lenders or employers

Tip: Most banks and credit unions prefer financing newer cars and may be reluctant to lend for cars that are more than a few years old. If you're shopping for a low-cost, used or high-mileage car, you may have more success with a specialty auto lender. You can also check with your car dealer's finance department, which often has relationships with many different lenders.

Even if your bank or credit union turns you down, you can get some insight from your banker on what you'll need to do for a future application.

Go Through a Dealership

Franchise dealerships contract with specific car manufacturers, like Toyota or Ford. Their new cars are generally all from the manufacturer they've franchised with, though their used car stock can be from any manufacturer.

Such large branded dealerships have their own in-house finance departments. Their job is to help you get approved for a loan, if possible. They may have relationships with a dozen or more different lenders, and they want you to get approved.

Lenders at dealerships generally prefer to lend on new cars or cars less than eight years old.

First-time Buyer Programs

Manufacturers and dealers know that young customers can become customers for life. They work to provide a positive car-buying experience for first-time buyers, so they'll have a good chance to earn that customer's loyalty for many years to come.

Some dealerships advertise first-time buyer programs with easier down payment, credit history and income requirements. Some dealers "match" your down payment by adding the matched amount to the loan balance, to make it easier to get into a car.

To qualify for a first-time buyer program, you'll typically need to prove you have had a full-time job for three to six months, and you'll need to make a minimum down payment, often around $500 to $1,500, depending on the program and the car.

Newer cars generally have lower down payment requirements, but higher monthly payments.

Get a Co-signer

If you have a co-signer with strong credit, you get the benefit of their established credit history. If their credit is very good (for example, a FICO credit score of 700 or above), you could qualify for a great deal.

Here's the downside: If you can't make the payments, the co-signer will be on the hook for them. Plus, their credit score may take a hit if any payments are missed.

Documents

Here's the documentation you'll need to show:

  • Driver's license
  • Loan preapproval, if any
  • Recent pay stubs (If self-employed, three months of bank statements or proof of income)
  • Cash or proof of funds for the down payment and expenses like dealers' fees, tax, tags, title and license
  • Names, phone numbers and addresses of references

Go to a "Buy Here, Pay Here" Dealer

A car that costs less than $7,000 could be difficult to finance, so you might try a "buy here, pay here" dealer. Many people go to buy here, pay here dealers as a last resort, after getting turned down by traditional lenders. These small outfits are also known as "tote the note" shops, in which the seller extends you credit to buy the car. You'll make a down payment and agree to drop off a weekly or monthly payment at the dealer's office.

The seller typically charges a high interest rate—for example, 30 percent—and may or may not report your payment history to credit bureaus. Such dealers also tend to be quick to repossess your car if you miss a payment or two. If you're trying to build credit, you're usually better off with a lender that reports your on-time payments to the credit bureaus.

These lots often skip running your credit report—they mostly just verify your source of income and address. If you can prove both of these things, you'll probably qualify for their credit standards.

Build Credit and Qualify for a Better Loan

If you're starting the car-buying process with no credit, give yourself as much lead time as possible. The ability to walk away from a deal is a strong negotiating tool. If you wait to buy a car until you absolutely need it right away, you'll have painted yourself into a corner. You'll have a stronger negotiating position if you leave yourself plenty of time.

Meanwhile, here are some things you can do to improve your credit file.

Save Cash. Lenders won't finance the entire cost of a used car. They usually cap the percentage of the car's price they are willing to finance, especially on older cars. It will be much easier to finance a car if you have cash available for a down payment.

Check Your Credit Report for Mistakes. You can get a free credit report annually from each of the three major consumer credit bureaus (Experian, Equifax and TransUnion). If your report has wrong information, dispute the error with the credit bureau. If your creditor can't prove the information is correct, the credit bureau will remove the error from your record.

  • Start an Alternative Credit File. Some companies will work with your landlords, fitness clubs and other monthly billers to build a credit file using information that isn't routinely considered in traditional credit-scoring. For example, companies like Ecredable and PRBC track your payment history with such vendors and put together an independent credit score, using data lenders can access.

  • Get a Cellphone Account. Telephone companies can report your bill-paying habits to credit bureaus, so it's important to make these payments on time.

  • Get a Credit Card. You can build your credit history with a credit card without paying a dime in interest. Charge your routine bills to the credit card, and be sure to pay off the balance in full each month. The card issuer will report your timely payments to the credit bureaus, which will help you improve your credit and get a better car loan.You'll get any card benefits like points or cash-back rewards.

What Does it Take to Qualify for a Car Loan?

Regardless of your credit history, lenders will also consider your debt-to-income ratio. Your DTI ratio compares your monthly debt obligations to your pretax income, to determine if you can reasonably handle more debt. If you have bad credit or no credit, your DTI ratio takes on extra importance since it is the only factor lenders can see.

Lenders generally want to see a debt-to-income ratio, including your new auto loan, that's less than 40 percent of your income. Lenders know that default rates increase among customers who extend themselves beyond that point. For consumers with bad or no credit, lenders may decline loans that would put the DTI above 30 percent.

For example, assume you have no credit and your monthly income is $5,000 before taxes. Your rent, student loans and other bills total $1,200 per month. That puts your DTI at 24 percent. If the lender caps DTI for no-credit borrowers at 30 percent, you would potentially qualify for a loan with a $300 monthly payment, since that amount would bring your total monthly obligations to $1,500 and your DTI ratio to 30 percent.

Some lenders limit the allowable monthly payment to 15 percent of your income, especially for borrowers with lower income. In that case, if you make $2,500 per month, you may qualify for a payment of up to $375.

To improve your debt-to-income ratio, and thus your car-buying power, look for ways to either reduce your monthly bills or increase your income. Either way, reducing your DTI will boost your ability to qualify for a loan.

Buying Auto Insurance with No Credit

Auto insurance rates depend on several factors aside just your driving history — such as your age, city, the make and model of your car and even your occupation. Your credit score is one of the factors that, depending on your state, can significantly impact your premiums.

Not all states allow insurance companies to use credit scores when determining car insurance prices. But insurers in states that do allow it will often use this information when setting rates. In New York, for example, our research found that a driver with poor credit would pay 105% more than a similar driver with excellent credit.

To find the best rates, we recommend comparing auto insurance quotes from at least three insurers in your state. In addition, you can do the following to lower the premiums.

  • Increase Your Deductibles. Certain types of auto insurance coverage, such as comprehensive and collision, have deductibles—the set amount of money you would be responsible for paying out of pocket before your insurance covers any damage. Increasing the deductible will lower your premiums. Just be sure you have enough funds to cover the deductible in case of an accident or damage.
  • Take Advantage of All Discounts. Some discounts are applied immediately to your policy, such as those for drivers who have no recent accidents. However, other discounts only apply if you make certain moves, such as bundling policies or telling your insurer that your vehicle has safety features. Most major insurers also offer discounts for signing up for a telematics program, which tracks your driving habits and rewards good behavior with lower rates.
  • Consider Potential Premium Increases Before Filing a Claim. Insurers factor in your claims history when determining prices. For minor issues you can afford to pay for out of pocket, it may be better to handle the cost yourself. A clean claims history can help keep rates reasonable.

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