Benefits of getting preapproved for an auto loan

Buying a car can be a long and complex process. Unless you have enough cash to buy your vehicle outright, securing a loan is crucial. Though it takes a little extra preparation, a preapproval can help you be better prepared for your next auto purchase. Should you get preapproved for an auto loan? Read on to find out.

What is preapproval for an auto loan?

Preapproval is just what it sounds like ⁠— the process of securing approval for an auto loan before you purchase your next vehicle. Getting preapproved is essentially the same as actually applying for a car loan. The primary difference is the timing. When you seek preapproval, you're preparing your financing options before heading to the dealership to negotiate on a car. This gives you some essential information on your financial options and makes you a more powerful purchaser in the long run.

What are the benefits of preapproval?

Securing preapproval for an auto loan provides a wealth of benefits for you as the buyer. It essentially places you in a position of power as you navigate the car-buying process. When you have a loan preapproval in hand, you'll enjoy the following perks as you explore the car lot.

A solid idea of what you can afford

A preapproval gives you the exact amount that you can expect to receive in financing. This lets you know what you can afford and what you should avoid. Don't waste time falling in love with a vehicle that's well out of your price range. Stick to the amount that you're preapproved for so you can move forward with reasonable and accurate expectations for the loan process.

A stronger negotiating position

When you tell the dealership you're preapproved, they'll work harder to negotiate. Getting preapproved puts you in a stronger negotiating position with the seller.

A preapproval also signals to the dealership that you've planned ahead for your next purchase. Knowing you've put in the time and effort to get your finances ready for your next vehicle, the dealership will be more likely to give you the time, attention, and consideration you deserve.

The opportunity to compare rates

When you're shopping for a preapproval, you're not limited to a single lender. You can apply for a preapproval from more than one institution to find out what kinds of rates are out there. You can also let your preferred lender know what you're seeing from others and use this as another negotiating tool. Comparing rates will let you know where you really stand financially.

Freedom from dealership financing

Most dealerships offer their own financing and are happy to provide it instantly. If you find the car of your dreams but don't have a preapproval in hand, you may find it more difficult to resist the temptation of on-the-spot financing. The salesperson will likely push hard for you to simply fill out an application on-site and get your car financed right there at the dealership.

Since you're a captive audience in this situation, the dealership is likely to tack on another 1% or 2% to your interest rate. If you haven't shopped around yet, you won't even know if you're getting a good deal or not. With a preapproval, you know exactly what kind of offer the dealership would have to beat. You won't feel the pressure to grab the first financing option you can find if you wait to secure your funds before you start looking at vehicles.

How do I get preapproved for a car loan?

Getting preapproved for an auto loan is easy. You can fill out an application with most financial institutions online, in person, or over the phone. You'll need to provide proof of your identity in the form of a driver's license or state ID. The financial institution will also need your Social Security number, employment status, and proof of income. With this information in hand, the lender will pull up your credit report to assess your creditworthiness.

While applying for a preapproval does count as a hard inquiry on your credit report, you can complete multiple applications within 14 days. Comparing rates is considered good credit sense, so you're not penalized for multiple inquiries as long as they fall inside this window.

What is the difference between prequalification and preapproval?

You may have heard the term prequalification used similarly to preapproval. While this process is similar, it's not quite the same thing. A prequalification gives you a general idea of how much you can borrow based on some surface information. However, a prequalification isn't a full assessment of your financial situation.

A prequalification is not a guaranteed offer. While you can use this information early on in the car-buying process to get a general idea of the type of vehicle you can afford, you don't want to walk into a dealership with total confidence that you can secure this amount. There is always the chance that the prequalification won't pan out, and the lender will rescind the offer.

A preapproval, on the other hand, is usually seen as the equivalent of cash where the dealership is concerned. You're nearly guaranteed to get this amount of money, so you can shop confidently with an understanding of what kind of financing you'll receive when you go to execute the loan.

After preapproval: next steps

Preapproval lets you know how much a lender is willing to give you for a car loan, but it doesn't necessarily tell you what you can really afford. For this, you'll need to assess your personal budget. Write down all of your monthly expenses, including rent or mortgage, groceries, utilities, toiletries, and entertainment. Compare this to your monthly income to see how much you have left over. 

Keep in mind that a car has several associated costs. In addition to your loan payment, you'll also need to pay for insurance, gas, and maintenance. You'll also have fees for your registration and license plates. Set your sights on a monthly payment that you can comfortably afford. Ideally, your budget will also leave room for you to grow your savings, prepare for retirement, and maintain a healthy emergency fund.

When you're shopping for cars, you should plan to put about 20% down on a new vehicle or 10% down on a used one. Add 10% to the purchase price for the vehicle to cover taxes and fees. With all of these numbers in mind, you can determine what kind of car you can comfortably afford with your preapproval.

Getting preapproved is a smart step if you're ready to hit the dealership and move forward with the process of buying a car.

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Learn more about the factors that go into your preapproval for a car loan with these articles:

• Learn why verifying your credit score is super helpful
• When is your credit score pulled?