Down payments can be a serious problem for many car buyers. As bad as high purchase costs, insurance policy and road tax fees may be, they usually present surmountable obstacles. Having to put down another 10-20% of the total car price upfront, however, can mean game over.
So it is easy to see why zero down payment auto loans can look like the perfect solution. Simply negotiate a price and a rate with the dealer and drive off in your new car – could things get any better?
The thing is: Zero down payment plans are usually not a good idea. In some cases, they can actually be a terrible idea! Want to know, why? Then read on – and find out how to approach zero down payment auto loans the right way.
Why do dealers insist on a down payment?
That seems like an easy question. Dealers want to make money on car finance. Obviously, they’d rather like to get it sooner than later. So down payments seem like the best way towards a faster payday.
No one’s going to deny that these considerations play a role. But there’s definitely more to the story.
Essentially, car finance is governed by risk and profit:
As long as the risk of lending to you is acceptable and there is money to be made, lenders will agree to a loan.
The worse your financial situation, the higher the risk of a full or partial default.
The higher the risk of a default, the higher the loan rate will be.
The longer the loan term, the higher the risk of you defaulting along the way. Accordingly, here, too, the loan rate rises to reflect that.
Every penny that you pay at the start of the loan term reduces the risk for the lender.
After all: You can not default on what you’ve already paid. This is why lenders are so passionate about down payments.
A good way to think of a down payment is that it reduces your loan. Let’s say you want to buy a £10,000 car and pay £2,000 upfront. Then your loan is now only £8,000. The down payment is no longer part of the risk considerations of the dealer. All calculations are performed on the basis of those £8,000. Even if you should never pay a single monthly instalment, the dealer has already significantly reduced her loss.
As we’ll see in just a moment, down payments are not just beneficial for lenders, however. They can be pretty great for you, too.
Do Zero down payment Auto leans actually exist?
One could easily assume based on this, that no lender would ever agree on a zero down payment car loan.
Surprisingly, in practise, they are not as uncommon as you’d think. At Concept Car Credit, for example, we definitely offer them on occasion and believe they serve a clearly defined purpose.
Finding them can be a struggle, though. One reason is obviously that lenders appreciate down payments so much. Another, curiously, is that quite a few dealers fear that this type of loan can make them seem unprofessional, as zero down payment car loans are often associated with bad credit car finance.
But even if you can find a lender who’s willing to provide one of these loans, you should give them serious consideration before signing the paperwork.
The huge problem with zero down payment auto loans: Cost
As we mentioned before, down payments reduce the risk for the lender. They also reduce the loan sum.
This can have a positive effect on your car finance in two ways:
It reduces the interest you have to pay.
It can lead to better terms and conditions, including a lower interest rate.
Conversely, making no down payment means a higher risk for the lender and, accordingly, more interest and potentially worse conditions.
Depending on the size of the down payment, these differences in cost can be considerable and amount to several thousand Pounds.
This is especially pertinent for those whose finances are already stretched to the limit. One major point of criticism is that zero down payment car loans allow people who really shouldn’t buy a car right now to take up credit.
Zero down payment auto loans also take longer to pay off.
It goes without saying: The bigger the loan, the longer it will take to pay off.
Now, you could ask why that should matter. As long as you’re behind the wheel and as long as you don’t default on the loan, everything should be just dandy, right?
The thing is, it’s not. For starters, the longer you take to pay off your car, the shorter the time will be when you can drive it interest-free. Just as with your own house, this ‘rent-free’ period is one of the most significant benefits of having your own vehicle. Don’t willingly deprive yourself of it.
Also, continuous interest payments mean you’ll have to cut corners in other parts of your budget. To some, this may be okay. But to others, it can amount to perpetual psychological pressure.
And, of course, the longer the loan term, the higher the risk of something unforeseen occurring. Again, this need not be a problem. But it does mean the risk of running into trouble is higher.
4 rules on how to do it right
All of this doesn’t mean that zero down payment car loan should be off the table. We do, as mentioned, offer them ourselves occasionally and actually think they can be great. In most cases, borrowers will pay back the loan without any issues.
We do, however, strongly believe that there are four important points to take into mind:
Only do so if you really have to: Zero down payment car finance is more expensive than regular finance and it takes longer to pay off.
Even the smallest down payment is a gesture of good will and can serve to instill more trust in the bank or dealer.
Don’t overbuy: This is a general piece of advice, but especially if you can not make a down payment, any ‘dream cars’ or extravagant extras are a no-go.
Keep monthly payments low: Lower monthly payments extend the loan period. So this may seem to contradict our statement that you should keep the loan term short. In this case, however, we feel it’s warranted. A zero down payment car loan is already a compromise. If lower monthly rates keep you from running into trouble, then you shouldn’t hesitate to tap into that benefit.
Finally, it’s vital to improve your finances all the time. Especially if you have to resort to a zero down payment loan, getting your finances in order should be a top priority for you. Don’t wait – the sooner you get started, the better.