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What is a subprime auto loan?
Buying a car when you have less-than-perfect credit is possible, but beware of the risks.
Without a good credit score, a subprime auto loan may be your only option to finance a car. But with high rates and predatory lenders running rampant, it’s essential to compare all of your options and carefully read the terms of your contract to ensure you’re getting the best deal available. After you borrow, put together a budget and make on-time repayments to help raise your credit score and refinance your subprime car loan for a better rate down the road.
What's in this guide?
What is a subprime auto loan?
A subprime auto loan is offered to borrowers with credit scores of 620 or less. Borrowers often use them to purchase a new or used car, typically with high interest rates hovering around 20%. Like other car loans, subprime auto loans are secured by the car you buy.
Despite a bad reputation, they can be helpful for poor-credit borrowers looking to get behind the wheel of a car while simultaneously improving their credit score. Over a three-year period, subprime auto loan borrowers saw a median increase of 52 points on their credit score, according to a 2015 report published by Equifax. This is compared to a credit score increase of just 32 points for people who didn’t borrow a subprime auto loan.
Is it safe to borrow a subprime auto loan?
It depends on the lender and your financial situation. In general, borrowers of subprime auto loans are more likely to default, which is why lenders charge such high interest rates. But those high rates can make your loan difficult to afford — one or two missed payments could lead to hefty late fees and the risk of having your car repossessed.
Subprime loans are especially risky if you borrow from a buy-here, pay-here dealership because they’re less regulated than other lenders. This doesn’t mean every dealership offering subprime auto loans is shady, but do your homework by researching customer complaints on sites like the Better Business Bureau and Trustpilot. And if you decide to go with dealership financing, pay extra attention to your contract — looking for hidden fees or clauses.
Be on the lookout for subprime lenders that are pushing higher loan amounts and absurdly high rates — it could be a sign the lender is banking on you defaulting and plans to sell your debt for a profit. Protect yourself from this predatory lending strategy by comparing all of your options and borrowing only the amount you need.
Compare subprime auto loans
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How can I get the best deal on a subprime auto loan?
Subprime auto loans are inherently expensive, but there are a few steps you can take to reduce the overall cost and ensure you’re borrowing from a legit lender.
Step 1: Compare multiple lenders.
The easiest way to get a good deal — or at least avoid a bad one — is to compare lenders. You’ll see what rates you can expect and understand potential fees before setting foot on the car lot, helping you make a better decision. Looking at reviews and complaints of each lender can also provide insight into how they treat their customers.
Step 2: Shop used instead of new.
While used car loans tend to have higher rates than new car loans, buying used means you won’t need to borrow as much. And when you borrow less, your monthly payments are more manageable.
Step 3: Keep an eye on fees.
Ask potential lenders about fees. Many will charge origination, prepayment and late fees that quickly add to the total cost of your loan. Use our car loan monthly payment calculator to compare the costs of two loans to get an idea of which is offering the better deal.
Step 4: Visit the dealership with a loan in hand.
Visiting the dealership with a prequalification from another lender in hand can put you in a better position when it comes to negotiations. You could get a better rate if the salesperson can match or beat that rate.
Step 5: Apply with a cosigner.
You may be able to score a lower interest rate with a cosigner. However, since they’re taking on considerable risk if you default, discuss your budget with them and make it clear how you plan to afford the monthly repayments.
Step 6: Save up for a down payment.
A large down payment means you can borrow less, saving you money on monthly interest. The rule of thumb is to have 20% of your car’s value saved up, but even a down payment of 10% can be helpful.
Are there alternatives to a subprime auto loan?
You have two alternatives to taking out a subprime auto loan, though they can be risky:
- Unsecured personal loan. Unlike an auto loan, you won’t lose your car if you default on an unsecured personal loan. However, it can be more difficult to qualify for a personal loan — and rates are likely higher than a subprime auto loan since it poses more risk to the lender.
- Home equity loan. If you have equity in your home, you could use it to purchase a car. A home equity loan generally has better rates than a subprime auto loan. But it comes with much more risk: You could lose your house if you default.
While not a direct alternative, you may want to consider refinancing your subprime auto loan once you’ve built up your credit score. If you qualify for lower rates from a different lender, you’ll decrease the total cost of your loan.
Bottom line
Subprime auto loans can be beneficial if you have no other options. Comparing lenders and paying close attention to the terms of your contract can ensure you’re not taken for a ride.
To learn more about how it all works, check out our guide to car loans.
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