Right off the bat, this is where the great majority of car buyers go wrong. After budgeting for an auto purchase, this is the very next thing you should do.
But most people leave it to the very end: Once they’ve decided on a car, driven it around the block and hammered out a price with the salesman and his manager, only then do they apply for credit and find out what their credit score is.
Do it the smart way: Check your credit up front, before you set foot in a dealer’s showroom. Start this process months before you plan to purchase, if possible, because if you have incorrect or outdated information that’s lowering your score — and therefore raising the interest rate you’ll have to pay — it can be removed, but it takes at least 60 to 90 days.
Get your credit report
There are three national credit reporting agencies, Equifax, Experian and TransUnion. You will need to get your report from all three agencies. You can get them by paying a nominal fee, usually less than $10. Better yet, thanks to the 2003 Fair and Accurate Credit Transactions Act, every American is entitled to a free credit report from each agency every 12 months. You may also qualify for a free report under certain circumstances — being turned down for credit or if you suspect fraud, for example. If you’re married, make sure to get one on your spouse as well.
Also, check to see what your FICO score is. Named after Fair Isaac Corp., the firm that developed the scoring model back in the 1950s, the FICO compares the information in your credit report to what’s on the credit reports of thousands of other customers.
FICO scores range from about 300 to 900. The higher your score, the better a credit risk you will be considered. It’s difficult to say what’s a good or bad score, though, since lenders have different standards for how much risk they will accept.
A used-car lot that boasts it will finance anyone likely will not care if your FICO score is 500. That’s because they will have jacked up the price on their cars and their interest rates to cover their costs of repossessing the vehicles they sell to high-risk customers who default.
How is the credit score determined?
Your credit score is based on five factors:
- Past payment history.
- Outstanding debt.
- How long you’ve had credit.
- How much new credit you’ve sought recently.
- The types of credit you have.
Using your credit report — or your general knowledge of your credit situation — you can estimate your FICO score by clicking on this free FICO Score Estimator. The vast majority of people fall into the 600 to 700 range, and the best auto financing rates are generally available only to those who score above 700.
Next, check the report for misinformation, such as accounts that don’t belong to you, accounts that have been closed but still show as open, billing disputes that were resolved and incorrect credit limits or balances. Look for outdated information. As a general rule, a negative report stays on your record for seven years and a bankruptcy for 10 years. The credit reporting company has to support the information it has on you. No support, no black mark. So ask to see it. If the support is erroneous, write to the company with which you originally did business. Send it copies of any documents you have supporting your position and request that it send corrected information to the credit bureaus it reports to.
You have the right to include a statement of as many as 100 words in your report to explain your version of the disputed item. This will be included in reports provided in the future.
The credit reporting companies make mistakes — oodles of them. So many, in fact, that there is a 50/50 chance that there’s a mistake on your report. The Fair Credit Reporting Act gives you the right to challenge the reports and have them corrected if they’re wrong.
The Federal Trade Commission’s Web site presents a concise summary of your rights under the act, written in language that’s easy to understand.
Recheck your score — it could be worth it
Once you have corrected mistakes, check your FICO score again in 30 to 60 days to see how much, if any, it has changed. How important is, say, a 50-point swing in your score? It could mean the difference in getting approved for a zero percent loan or paying 7 percent.
Is it worth the wait? Let’s say you were financing $20,000 for five years. A zero percent loan would give you payments of $333.33 and, naturally, zero dollars of total interest over the life of the loan. A loan at 3.9 percent would mean monthly payments of $367.43 and total interest of $2,045.71. A 7.9 percent loan would mean payments of $404.57 per month and $4,274.28 in total interest, or $71 a month more than the zero-percent financing.
If you are financing $20,000 for five years
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In addition to disputing items on your credit reports, there are other ways to improve your FICO score:
- Pay down any credit cards that are near their limit. Your FICO score suffers if it looks like you’ve maxed out your credit, even if you’ve made all the payments on time.
- Don’t apply for new credit, even if you are just exploring the option of financing a new washer and dryer. Frequent inquiries from credit providers can decrease your score.
- Close old accounts you no longer use. That Visa with the $15,000 limit that you have in your wallet just in case of a catastrophic emergency could depress your score. FICO looks at how much credit you have available, not just what you’ve used. There’s a catch, though. Closing all your accounts could adversely affect your FICO because the calculator likes to see that you have and use credit wisely.
- Keep older accounts with a good history and let new credit mature. If you’re just starting out and have only had that MasterCard for six months, wait a while. You’ll score higher with a longer history of handling credit.