Knowing what lenders look for can show you how to get a bad-credit auto loan with a lower rate.
In most cases, having bad credit won’t prevent you from finding a car loan.
But you’ll likely pay more — through higher interest rates and fees — than a borrower with good credit. That’s because lenders take on more risk when making an auto loan to someone with bad credit, so they charge more to compensate for that risk.
Here’s what you need to know.
Steps to getting an auto loan with bad credit
While it may be harder to qualify for an auto loan when you have poor credit, you can improve your chances and possibly reduce the overall cost of your loan.
Check your credit score and report
Before you apply for a car loan, know your credit score and where you stand. The two most used scoring models, FICO and VantageScore, have a score range from 300 to 850. Credit tiers differ for each scoring model, but in general you will find higher rates, fewer offers and more lender scrutiny with scores below the mid-600s.
Average APR, new car
Average APR, used car
Deep subprime: 300-500.
Source: Experian Information Solutions.
While some auto lenders also use an industry-specific FICO model, your basic credit report and score can give you an idea of the types of loan offers to expect. You can get your credit report and score for free through NerdWallet, or you can receive one free credit report per year from each credit bureau at annualcreditreport.com.
Once you have your credit report, look for ways to improve the information lenders will use to decide if you qualify and at what rate. Are there errors you can correct, such as accounts showing past due payments that were actually on time? Do you have delinquent accounts you could bring current? Do you have low-balance accounts you can pay off?
Bad-credit auto lenders
Show that you can afford loan payments
Lenders consider more than just your credit scores. They look for indicators that you can afford to make payments on time and won’t default on the loan.
For example, a lender will look to see if you have taken out auto loans previously and repaid them on time. If so, that is a strong positive factor in your favor. A repossession is a big negative.
Be prepared to respond to lender requests for documentation about the following:
Sources of income. Have proof of employment and income, in the form of a printed pay stub that shows year-to-date earnings if possible. For bad-credit borrowers, lenders are looking for a single source of steady income through employment. Some will consider additional income sources — child support, Social Security benefits or disability payments — but usually not as the only income. On average, most lenders are looking for an annual gross income of at least $18,000, but there are lenders that go lower or have no minimum.
Debt-to-income ratio. Lenders will look at your debt-to-income ratio (your monthly debt obligations divided by your gross pay). You may have trouble finding a loan if your DTI is above 45% to 50%. If you’ve paid off accounts and have less debt than your credit report suggests, be ready to show this.
Credit utilization. If you already have loans and credit cards, how much of that credit are you using? Lenders typically want to see borrowers using less than 30% of their available credit. If your credit usage appears to be higher, but you recently paid down balances, be prepared with proof of that.
Payment history. Your history of making payments on time, especially for auto loans, is a major factor when lenders make loan decisions. Be prepared to explain the circumstances of any late payments and the reason it’s unlikely to happen again.
Payment-to-income ratio. This is another measurement of whether you can afford a car payment, plus car insurance. Your PTI ratio is calculated by adding your estimated auto loan and car insurance payments, and dividing that total by your gross monthly income. Ideally, it should be under 20%.
Showing you can afford to make car payments helps with more than loan approval. It can also help you secure a lower rate and better loan terms.
Reduce the amount you need to borrow
When deciding whether to approve a car loan, lenders consider their potential loss if you stop making payments or total the vehicle. If you can reduce that potential loss by borrowing less, you may improve your chances of loan approval. Along with buying a less expensive vehicle, here are some other ways to borrow less:
Make a down payment. Some lenders will require a down payment, especially for borrowers with bad credit. Even if they don’t, put some of your own money into the deal if you can. Along with reducing the amount you have to finance, a down payment indicates to a lender that you are committed to paying off the loan.
Trade in an existing car. If you have a trade-in, take time to check car value guides, like Kelley Blue Book and Edmunds. Be prepared to negotiate what the dealer gives you for your trade-in, leaving less for you to finance.
Have a co-signer lined up
A co-signer is someone with good credit who agrees to make payments if you default on the loan. They provide a safety net for lenders that improves your chances of loan approval. Some lenders will require a co-signer for applicants of bad-credit auto loans.
A co-signer has no ownership interest in the vehicle, but risks their credit scores if you miss payments or stop them altogether.
Having a co-borrower may also improve your chances of approval. A co-borrower has ownership in the vehicle and is equally responsible for making payments.
Comparing lenders to get a bad credit auto loan
Avoid going with the first lender that offers you a loan. Some lenders take advantage of bad-credit borrowers who are desperate to buy a car, saddling them with high rates, fees and the cost of services hidden in a loan contract. If you don't compare lender offers, you won’t know whether you could have done better.
Visit your current bank or credit union first, or read online reviews and find auto lenders that have a low — or no — minimum credit score requirement. Do this before you ever head to a dealership. Eventually, your goal will be to get pre-qualified loan offers from multiple lenders.
What may seem like a small difference in interest rates can make a big difference in what you pay. On a $25,000 used car financed for 60 months at 9%, the payment is $518; at 14%, it’s $581. Over the life of the loan, the difference totals more than $3,700.
An auto loan calculator can help you compare the full cost of your loan options.
Alternatives to paying more for a bad-credit auto loan
If you can’t get approved for a bad-credit auto loan, or the rates are too high, your best option may be to delay buying a car if you can. Use this time to improve your credit, pay down other debts and save more money for a car loan down payment.
If you need a car now and can’t wait to buy a vehicle, your only option may be to settle for a high-rate loan. In that case, focus on making your loan payments on time.
After you have a six- to 12-month history of on-time payments, you can look into refinancing your auto loan. Apply to multiple lenders, as they have different requirements, and one may be willing to refinance to a lower rate when another one won’t.