How Your Credit Score Affects Car Financing
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Before applying for a car loan, it's wise to check your credit standing. That will give you a pretty good indication of where you stand in the eyes of potential lenders.
Many people assume that few car shoppers have good enough credit to qualify for the cheapest, lowest-interest auto loans, but that's not so. According to Experian, one of the big three credit bureaus, about two-thirds of all new car loans last year were granted to people with "Prime" or better credit standing, and 44 percent of borrowers were in the highest category, called "Super Prime" in Experian's parlance.
You can obtain your credit information from any or all of the three big credit-reporting agencies, also called credit bureaus, which monitor consumers' credit information. (The others are Equifax and TransUnion.) They all track your past and present borrowing behavior and generate a three-digit score that supposedly summarizes your creditworthiness.
By law, you're entitled to one free report from each of the three major credit bureaus every 12 months. To order your reports, go to annualcreditreport.com.
There are plenty of promotions on the internet these days that offer to give you your credit score free of charge. They come from banks, credit unions, and credit card issuers, including big names such as Bank of America, Chase, Citi, and Discover.
Discover Financial Services recently started offering free FICO scores through its Credit Scorecard program, even to people who aren't customers. You'll need to hand over some personal data, including your Social Security number.
When you get your reports, scrutinize them for errors, because you can challenge any mistakes you find. And it's smart to correct any misinformation that could be depressing your score.
Though the reports may be free once a year, the scores often are not. You'll wind up paying about $7 for each from the credit bureaus themselves and about $20 each from other services.
In addition to loan and credit card payment history, the credit bureaus track your total available credit, current debt, and how much of your available credit you're using, among many other factors. You may also find negative information, such as late payments, missed payments, judgments, write-offs, and bankruptcies.
Your scores will almost certainly differ from one agency to another. Each may gather information from a slightly different list of creditors that report your payment activity to them, and they use different algorithms to turn your credit activity into a score.
Many Scores, Little Control
Credit scores are often generically called FICO scores. That's because a firm called the Fair Isaac Company developed the most widely used scoring algorithms, software it sells to the credit-reporting agencies and lenders. Fair Isaac constantly refines its FICO software in the same way that software makers offer successive generations of an app or computer program. Those algorithms are also tweaked for different lenders for different purposes.
That means there are many versions of the FICO score in circulation that are used by mortgage companies, credit card issuers, auto lenders, and others. Depending on who is pulling a score on you, your credit history may generate more than 60 different scores. You should realize, too, that your credit score fluctuates throughout the year as your various loan balances change or you apply for new credit and close existing accounts. Those are two good reasons not to obsess on the scoring number and on modest differences you may see between the different scores.
When you buy or obtain your free once-a-year scores from the credit reporting agencies, what you get is a branded score called a PLUS score, which is a FICO score with some finishing touches incorporated by the agencies. They differ from agency to agency for several reasons. Credit bureaus may not gather the same information on you. And you may see scores that use different scales: 300 to 900, 300 to 850, or something similar.
They're not the exact score that any given lender may be using to judge your loan application. Lenders buy scoring software from FICO and other providers. And they have no obligation to show you the score they used to judge your creditworthiness.
Scoring Tiers
Lenders usually divide credit scores into tiers, or categories. It might be a simple five-step one such as Excellent, Good, Fair, Poor, and Bad. In recent analyses of consumer credit behavior, Experian has been using these tiers: Super Prime (740+), Prime (680-739), Nonprime (620-679), Subprime (550-619), and Deep Subprime (under 550). The average score of all borrowers in mid-2014 was 681, which is pretty darn good.
Different providers may divide categories at different places. For instance, a score of 680 might be considered Prime in one system and Nonprime in another.
Lenders can make whatever tiers they want according to their own business needs. For car companies offering financing, the amount of your down payment can significantly change the tier they put you in.
And the tier you land in can make a huge difference in the annual percentage rate you'll pay. In 2015, people in the highest tier were paying less than 3 percent on new-car loans. Subprime borrowers were paying, on average, more than 13 percent.
But the score you get with your credit reports is only a rough guide to how creditworthy you are to lenders. They make decisions on whether to approve a loan, how much to lend you, and at what interest rate based solely on their needs. And they may consider all sorts of factors, such as your income and work history, that credit bureaus don't even track.
You could have perfectly good credit score to buy a car and some bank might turn you down if it doesn't need borrowers with your score right now. But you could have lousy credit and still get a loan if the lender wants to make more subprime loans.
What many people don't realize is that getting turned down for a loan doesn't hurt your credit score. The credit-reporting agencies only track the applications you make, not the results.
Lenders' 'Secret' Scores
When lenders make various kinds of loans, such as auto loans or home mortgages, they often use scoring models adapted for the purpose, which produce different scores from those you obtain yourself from the credit bureaus. In the auto-loan area there are, for instance, scoring models called "auto-enhanced" or "auto-industry" variants. They're based on formulas that give more weight to your past behavior specifically with auto financing.
If you've made late payments or defaulted on a car loan, it will ding your credit score for car buying more than otherwise. Similarly, if you've been really good with auto payments, your credit score to buy a car could be higher than one used by a credit card issuer. An auto lender might not care, for instance, that you're chronically late with your Visa bill as long as you pay your car loan on time every time.
What's vexing to many consumers, however, is that they have no legal right to see that "auto-adjusted" loan score. That puts consumers at somewhat of a disadvantage. If the credit score to buy a car is wildly different from a regular FICO score, consumers can't learn why or do anything about it.
However, if you've had a positive auto-loan history, it's safe to assume that your credit score to buy a car will reflect it. The reverse is also true. If you discover that your credit-bureau report shows negative information about your prior auto-loan performance that isn't true, you should contest that information, both with the credit bureau and with whatever creditor is bad-mouthing you.
Some experts have argued, with some justification, that it's pointless to get your scores from the credit agencies because lenders don't have to use them to make a loan. They'll either lend you money or they won't.
But we think that getting your easily available credit reports and scores is still useful. It will tell you where you fall generally on the credit spectrum, and may prod you to fix any errors you find. If the information is accurate, most of the time the credit-bureau scores run fairly parallel with lenders' secret scores.
Improving Your Credit Score
Here are some tips for keeping your credit record healthy:
Sign up for automatic payments from your checking account so that at least the minimum payment is made each month.
Don't max out on credit cards. Try to keep your balance no higher than 20 percent of the card's limit.
Don't close credit card accounts you aren't using. Unused credit is good for your long-term record.
Get your credit reports and challenge any misinformation you find.
If you want auto-loan providers to see you in the best light, never miss a car payment.
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