What Is Car Finance?

Car finance is the process by which a loan or lease agreement is put in place to fund the purchase of a vehicle, and car finance is used for the purchase of both new and used vehicles. The terms available for car financing are based on various factors including credit rating, length of the loan's terms and other conditions that are spelled out in the loan agreement.

Car financing can also be used for refinancing arrangements to change the interest rates or terms of an existing car loan. Refinancing is important to individuals with high interest rates who may benefit from renegotiating their loan, provided that they qualify for the lower loan interest rate.

Any discussion about financing must include a few words about your personal credit score. This score is developed by the three credit-reporting bureaus and ranges from 300 to 900, with an acceptable score being 620 and higher. Credit scores, which may also be referred to as Fair-Isaacs Corporation or FICO scores, measure creditworthiness and the level of credit default risk you represent. The lower the credit score the higher the default risk.

Federal law entitles you to a free report each year. Checking the report will help to identify any inaccuracies as well as delinquencies that exist and can be resolved. The better you understand your individual credit score, the better position you will be in when seeking financing.

Applying for a car loan involves contacting a lender. The lender can be part of the car dealer or an independent source like a third-party finance company or bank. Each lender establishes their criteria and rates based on current interest rates and other established lending practices.

You will find higher loan interest rates on used cars versus newer models. The same holds true for people with credit scores closer to 620 than those with credit scores near 900.

A vehicle lease allows a person to obtain a vehicle without the obligations of ownership. The lease agreement gives the lessee the ability to use the car during the lease period, for which the lessee pays a monthly lease fee. This fee can be applied to a future payment if the lessee decides at the end of the lease term to purchase the car.

Vehicle leases have advantages and disadvantages to them. The biggest advantage is that the lessee is not locked into a long-term commitment with the car. At the end of the lease period, you simply walk away from the vehicle or exchange it for a new one. The disadvantage is that since the dealer would like to sell the car to a buyer at the end of the lease period, they would like the normal wear and tear cut down to a minimum. This is done with mileage restrictions. Any miles driven above the allotted amount in a given lease year will result in additional charges, which effectively increases the financing rate for the lease.

A car owner may also decide to refinance an existing loan as a way to lower their interest rate. This may be especially true of an individual who is "upside-down" on their car loan. This occurs when the value of the vehicle is less than the loan balance. Refinancing a loan is subject to the same underwriting standards that were imposed by the lender when they initially sold the car.