"How Much Is The Dawn Payment On That Car?"

I get credit applications all the time from people who, it turns out, have only a vague understanding of how automobile financing works. For example, they want to buy a $35,000 R32 with no money down, but then are disappointed when I tell them the payment can't be $350 per month. Or they want to buy a 10 year old /100,000 miles-on-the-odometer used car on our lot but don't understand why it can't be financed. These are just two examples. So allow me to elucidate a little bit in the hopes that this random information will be helpful.

DOWN PAYMENT AND PAYMENTS. Every week I get at least one email inquiry that reads like this, "How much will the payments be on that car and how much down payment is required?" The correct answer is that there is no one fixed amount of down payment required of all people. The amount of down payment required is directly affected by your income and your credit score. For example, if you have a crappy credit score you are seen as a great risk by the lending company. They are therefore going to require a large down payment in order to minimize their risk. Likewise, if you have a super high credit score you can pay a minimum amount down if you want 'cause the lender knows you are going to pay the loan on time.

These factors affect interest rate also. If you are high risk they are going to raise the interest rate in order to try to get as much of their money back upfront as possible. If you are low risk you will get the lowest rates.

Therefore it is very difficult for me to tell you what kind of down payment and payment are required without first seeing a credit report and loan application.

USED CARS. The major automobile lenders want to finance cars that are 5 model years old or less and have 75,000 miles or less. They also want to make loans that are $7,500 and greater. Therefore (for example) a 1999 Beetle with 130,000 miles and selling for $5,995 does not qualify for financing. Now, this is not to say that you cannot under any circumstances finance this car; your local bank or credit union, one with whom you have a strong personal relationship, might be very happy to lend on this car. But not Volkswagen Motor Credit, Capital One, USAA or any of the other major lenders.

NEW CARS. That 0% for 72 months offer you just saw on television? It's not actually 0%. It just looks that way. I'll explain. If you have ever gotten a mortgage to purchase a house you are already familiar with the concept of "buy downs." You know, the actual mortgage interest rate is X% but if you want to give the lender a couple of percentage points worth of cash up front they will reduce the mortgage interest rate to X% - 2% (or something like that). Same thing here. When Ford or Chevy or Chrysler or Toyota or whoever tells you that you can have 0% for 60 or 72 months it is highly unlikely that they are actually giving you 0% money. Money isn't free, right? Instead, the buy down cost has been buried in the price you are paying for the car. Next time you are negotiating on the price of one of these cars ask the dealer if the price will change if you agree to take a normal interest rate loan. If you stick to your guns it will. And if you then do the math both ways (current selling price financed at 0% versus new reduced selling price financed at current market %) you might discover that your monthly payments are actually lower at the current market rate!

A lot of times people come to us with a 2 -3 year old trade-in that they financed at 0% assuming that, because they are paying no interest, there is no way they can be upside down in the car. Not true. They may have gotten 0% financing but they paid too much for the car in the process, so, they are no better off than the guy who got regular financing.

Remember what your grandfather said; "There is no free lunch."

HOW MUCH IS MY PAYMENT? Let's do some simple math. Let's say the car you want is $25,000 after TT&L. And you want a payment of $299 per month. With zero down. Can it be done?

If $25,000 is the loan amount, and you finance it for 6 years (usually the maximum term) and the interest rate is, say, 6.9% (could be higher, could be lower, it all depends upon your income-to-debt ratio and your FICO score) you end up with a monthly payment of $425. It's simple math.

Obviously then, to get a $299 monthly payment you are going to need some down payment money. How much? That's easy to figure too - we'll just find the gap and then work the formula backwards.

Take $425 (the actual payment in this example) minus $299 (your target payment) = $126 gap. Doing the loan formula again but doing it backwards this time we enter $126 as the payment, financed for 6 years again, at 6.9% interest again, and we end up with an amount of $7,411. So there is your required down payment: $7,411. That will get you the $299 monthly payment you want.

Note: you can try this yourself with any online payment calculator. Here's a link to the one on the Edmunds.com website.