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How Do Auto Lenders Decide What Interest Rate to Charge?

For those who are planning to buy a new car, finding the best car loan interest rates is a must. This is because the rate one gets significantly affects the overall cost of the vehicle. Getting a higher rate means paying more interest for the duration of the loan term.

If you are shopping for a car, know what factors affect car loan interest rates. This way, you can get an idea of what rate you will get and understand why such rate was given.

1. Prime Rate

One of the major factors that influence the interest rates given by lenders for car loans and other loan products is the prime interest rate. Banks also use this rate as basis when deciding on the best rates they can give their customers.

The prime interest rate is decided based on the interest rates set by the ten biggest banks in the United States. It changes once seven out of the ten banks modify their individual rates. The prime rate is reported by the Wall Street Journal.

2. Market Conditions

Car loan interest rates are also influenced by the country’s economic situation. In tough economic times, interest rates are dropped. The reason behind this is that the prime rate is also affected by yet another rate, one determined by the Federal Reserve: the federal funds rate. In a time when market conditions are less than favorable, the federal funds rate is reduced to boost the economy. On the other hand, when the economy is doing well, this rate is increased to control inflation.

When the economy is bad, dealers also drop their rates to convince car buyers to opt for brand new vehicles instead of the pre-owned variety. They may even offer 0 percent financing. The auto industry tries to sway customers by giving financing rates more attractive than those offered by local banks. The reason behind this is that the interest rates offered has a big impact on the affordability of a vehicle. If vehicles are made affordable, people are more likely to buy.

3. Credit Score

Unlike the aforementioned two, this is one factor you have control over. Lenders offer their best car loan rates to borrowers who have good to excellent credit scores. It is important to note that not all banks base their interest rates on the prime rate, so you may find a lower rate at a credit union. Shop around to find the best deal.

4. Age of Vehicle

The age of the vehicle to be purchased is an important factor because some lenders determine the interest rate they will give based on it. The general rule is that new cars come with lower interest rates than used ones, but know that this may not always be the case.

5. Place of Residence

Lastly, the area where you in live in the country matters. Believe it or not, some places offer lower rates for financing than others.

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