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Those of us who are lucky when we need to buy a new car will plop down a suitcase full of cash at the dealership. Or have a check ready, which is more likely (and less dramatic).
For a lot of people, though, you’ll need to take out a loan.
There are a lot of options out there for getting your loan, and a new one is Bank of America. Bank of America is going to offer auto loans "alongside other products such as checking accounts and home equity loans." Now you can handle all of your financial needs in one place!
Which leaves one really big question.
Bank of America’s decision to get into auto loans is strange to say the least, because after a big boom in car-buying after the recession (during which Bank of America didn’t offer car loans), sales of new cars have started to slow down. This image from Reuters shows the slowdown – as well as the increasing number of past due loans out in the wild:
In the fourth quarter of last year, $1.1 billion worth of auto loans were uncollectible. So why is Bank of America getting into the game now?
Remember the housing crisis? Put very simply, one issue that contributed to it was lenders giving out mortgages to people who couldn’t (and who the banks knew couldn’t) pay them.
That’s the worry here. Obviously car loans aren’t as high-cost as home mortgages, but the idea is the same: people with poor credit are being targeted for long-term, expensive auto loans where they’ll be paying a lot of interest for a long time. Almost a quarter of auto loans issued through April 2015 last year were to people with subprime credit scores.
It’s not an unusual practice among financial institutions. Subprime mortgages aside, Capital One is infamous for suing people unable to pay their bills for credit cards that are considered subprime. ProPublica notes that "such a large portion of cards are held by those with poor credit that it is the country’s largest subprime lender." There’s high interest when people pay their bills, and when they don’t, Capital One takes other routes, like getting court orders to take money from wages or bank accounts.
Targeting people who will be subject to high interest is profitable business – until it all goes belly up like it did with the recession, but that’s a long-term consequence that most businesses don’t seem to focus on when there’s short-term profit available.
The U.S. Comptroller of the Currency Thomas Curry warned that what’s happening with auto loans reminded him of what lead to the financial crisis. Curry also warns against auto loans that have a term of six years or longer, because the average subprime loan has a term of six years (72 months) and carries an interest rate of more than 10%. Interestingly, Bank of America offers loans of up to 75 months.
It’s hard to see this as anything other than Bank of America preying on people who won’t be able to meet their financial obligations – and Bank of America will reap the rewards.
Okay, so maybe getting an auto loan from Bank of America isn’t your best option, but you still might need a loan to get a car. What can you do?
Being smart about the loan you’re getting is a good start.
Before you even think about getting an auto loan, you should do a little digging into your credit score. This is good knowledge to have in general, but it’s even more important when you’re looking to borrow money.
Credit Karma ranks your credit score as "the single biggest factor in determining what your auto loan rate will likely be," so you don’t want to go in without any knowledge of what you’re working with. A lower score will mean a higher interest rate, so if you have generally poor credit you might have an uphill battle ahead of you before you even step foot into a dealership.
Many banks and credit card providers offer credit reporting for their members. Your monthly statements might have your credit score listed, or you can log onto your account online to see your score.
You’re also able to get one free report report per year from each of Experian, TransUnion, and Equifax. You might as well take advantage of them, right? If you know where you stand with your credit, you can take steps to improve your credit score if you need to.
When applying for a loan, try to keep the term short. Remember what was mentioned earlier: loans of six years or longer tend to be dangerous, and if you’re offered one, it might be because the lender is counting on you not being able to pay it back.
Edmunds recommends aiming for 60 months or less for your loan term, and popular personal finance expert Suze Orman thinks that "any car loan greater than 36 months is a sign of financial irresponsibility." That limits your options, and even though it means you’ll pay more each month, you won’t be subject to lengthy, high-interest payments.
Finally, be sure to shop around. It looks like Bank of America is targeting people but you may find a lender that’s better for your financial situation. Make sure you look at the full loan amount, interest and all, and not get suckered in by low monthly payments. That just means it’ll take you longer to pay off, and you’ll be racking up interest the whole time.
Or, you could avoid the auto loan headache altogether and just lease a car. There’s never been a better time for it.
Not falling victim to predatory loans may seem easier said than done when it doesn’t look like there are other available options but you could pay, literally, for making the wrong decision. Taking on a loan you can’t pay is dangerous for your financial future, and if enough people do it, it could be dangerous for our country just like it was last time.
Image: Mike Mozart
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