You have the power to rebuild your credit and to get the car you need all at the same time. If you're living with bad credit, an auto loan can be a great way to improve your credit score. Learn how you can get an auto loan even if you have bad credit so you can take advantage.
Credit Scores and Car Loans
A car loan can help you rebuild your credit because it adds weight to certain factors in your credit reports, which are the basis for your credit score.
A FICO credit score is a three-digit number between 300 and 850 that’s based on information from your credit reports. Your credit reports are a record of your credit history. The information in your credit reports falls into five categories, each with its own weight, which combine to form your credit score.
The factors that make up your credit score are payment history, amounts owed, length of credit history, credit mix, and new credit. An auto loan can help in all areas, but it impacts your payment history, credit mix, and new credit the most.
A car loan is also a form of installment credit, which carries more weight than revolving credit (like credit cards). An installment loan usually does more to build your credit than revolving credit due to the larger amounts borrowed.
Do Car Loans Build Credit?
A car loan can help you raise your credit score for two main reasons that have to do with two of the five factors that make up your FICO credit score:
- Payment History: Your payment history makes up the largest part of your credit score – 35% of it according to FICO. This factor looks at past and current payment behavior on credit cards, loans, and other accounts. Making on-time payments on your accounts is the best way to build credit, which is why a car loan is an excellent credit builder. With each on-time payment you make on your car loan, you're helping improve your credit. When you make payments that are reported to the national credit bureaus, your credit score is impacted positively. However, missing and late payments make just as much of an impact but decrease your score. In fact, missing and late payments can lower your credit score very quickly.
- A Mix of Credit: Having variety in the types of credit you use and have used is another component of your credit score. FICO says your credit mix makes up 10% of your score. There are two main types of credit accounts: revolving credit, such as credit cards, and installment credit, such as a loan or mortgage. An auto loan falls under the installment category, so it can add variety to your credit mix and help you improve your credit scores if you pay it back responsibly. An installment loan is a type of credit where you agree to repay the amount borrowed over a set period of time. If you miss just one payment, you run the risk of defaulting on your loan. Additionally, installment loans typically carry much higher credit amounts than credit cards, which adds to the impact on your credit reports and score. When you take out a car loan, it also adds to your credit mix (the different types of credit you have), and to new credit – these factors each make up 10% of your credit score.
If you have poor credit and need a vehicle, you could try to pay cash for a car to avoid trying to get auto financing. However, you would miss out on all of the credit-building benefits of a car loan.
How Fast Will a Car Loan Raise My Credit Score?
Building good credit is like a marathon – it takes time, effort, and determination to achieve. A car loan can raise your credit score, but it's a slow build accomplished through months and years of on-time payments while keeping up with your other bills.
Therefore, you're going to want to plan out your purchase to make sure you don't overextend yourself and that your payments fit well within your budget. Here are some tips to consider if you need a credit builder car loan:
- Budget: Plan out your car buying budget by taking a close look at what you spend each month compared to what you make. A good tip is to try and spend less than 10% to 20% of your monthly budget on all of your car expenses, including fuel, insurance, and upkeep.
- Finance an Affordable Vehicle: After you have an idea of a payment that fits your budget, make sure to stick to it. A credit builder auto loan isn't the time to get the car of your dreams. Think affordable, practical, and reliable while you work to improve your credit by making payments on time.
- Have a Down Payment: Another great reason to plan ahead is that it gives you time to save up for a down payment. Having money to put down on a car can help you get approved when you have less-than-perfect credit. A down payment can also reduce the amount you have to finance, which lowers your monthly payments and the interest charges you end up paying.
Getting a Bad Credit Car Loan
Now that you know the ins and outs of rebuilding your credit with a car loan, you need to find a lender that can help you get approved with your current credit situation. This typically means finding a subprime lender.
Subprime lenders help people that are struggling with credit issues get the auto loans they need by relying on factors in addition to credit scores. They take into account your ability to take on a loan, how stable your financial and living situations are, and whether or not you're willing to invest in your loan with a down payment.
Because these lenders look at so many factors to get a clear picture of risk before approving you, they also require you to provide proof that you qualify. This varies by lender, but they require proof of identity, income, employment, phone, and residence, as well as a list of personal references.
Additionally, most lenders require bad credit borrowers to have a down payment of at least $1,000 or 10% of a vehicle's selling price, sometimes whichever is less.
Finding the Right Place to Start
So, now you have a game plan, but do you know where to start? If not, let us help. Here at Auto Credit Express, we work with a nationwide network of special finance dealerships that are teamed up with lenders that can handle all kinds of unique credit situations.
Not all dealers use these kinds of lenders. Instead of driving around town wasting time, money, and fuel searching for one that does, let us search for you. Fill out our fast and easy auto loan request form, and we'll work to get you matched with a local dealership.