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What Factors Drive Auto Loan Rate Trends? Unveiling the Influences and How They Impact Your Financing

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Comparing auto loan rates is an important step when financing a vehicle. What causes these rates to fluctuate? How much control do you have over what a lender charges for borrowing?

Below, we'll discuss the main factors shaping auto loan rate trends and share advice for securing affordable financing for a new or used vehicle.

Economic Factors

The Federal Open Market Committee (FOMC) meets throughout the year to adjust the federal funds and discount rates, two rates that influence the cost of borrowing for financial institutions.

These rates have a direct impact on what banks and credit unions can afford to charge when issuing loans. It's a mechanism that allows the government to slow down inflation by putting a damper on borrowing and spending.

The current funds rate has increased seven times in a row to reach 5.25 to 5.5%. It's the highest it's been in 22 years, and this high target range caused the average auto loan rate to jump from 4.5% in February 2022 to almost 7% a year later.

Creditworthiness and Financial Profile

The federal rate helps financial institutions adjust their pricing structure to reflect current market conditions. However, banks and credit unions process each application individually and assess the financial profile of each borrower.

Your credit score is one of the key factors that affects the cost of borrowing. This score reflects your ability to manage your finances responsibly, and factors like long-standing accounts or a reasonable debt-to-income ratio demonstrate your strong likelihood of repaying the loan on time and in full.

On the other hand, a low credit score or limited credit history tells the lender they are taking a risk. As a result, your interest rate will go up to make the loan worthwhile for the lender.

As of November 2022, a customer with a credit score of 720 or higher could obtain an annual percentage rate (APR) of 5.8% for an auto loan. The APR was significantly higher at 17.8% for a customer with a score of 589 or less.

Take a few steps to build your credit before applying for a car loan:
  • Start by requesting your credit report. Review it for accuracy and request any changes if you notice mistakes.
  • If necessary, take steps to pay off bills in collection or consolidate your debt.
  • Pay your bills on time. Setting up auto-pay can help.
  • Prioritize paying off your credit cards to reach a utilization rate of 30% or less on each account.
  • Improve your debt-to-income ratio by requesting higher limits on your credit cards.
  • If you have a relative with a long-standing account, become an authorized user to increase the age of your oldest account.
  • Signing up for services like Experian Boost can help you gain a few points by reporting regular payments for rent and utility bills.
Lender Policies and Risk Assessment

Auto loan rate trends also depend on each lender's policies. After you apply for a loan, an underwriting team will review your application and assess risks to set a fair interest rate.

Each lender uses different policies and thresholds to determine your interest rate:
  • A large down payment will reduce your Loan-to-Value (LTV) ratio. Some lenders offer rate discounts if your LTV is lower than 90%.
  • Your lender will also look at your debt-to-income ratio and use their internal policy to adjust risks based on the percentage of your income that you spend on your car loan payments.
  • The age of the car you're buying can make a difference. Rates for new cars are typically lower than those for used cars. The more details a lender asks about the condition of the car, the more accurately they will assess the risk.
  • Terms of 24 to 60 months are common for car loans. Some lenders will lower your APR if you opt for a shorter term.
  • You might qualify for a discount if your lender performs additional research into your employment and residence history.
Credit unions often offer discounts to their current members. For instance, Power Financial Credit Union offers discounts to those who have borrowed before. Setting up auto-pay and purchasing GAP insurance coverage makes you eligible for additional discounts.

Is Now a Good Time to Finance a Car?

Experts believe federal rates will drop in 2024 or 2025. Financing a car will likely become more affordable in the near future, and new and used car prices might also drop.

If waiting isn't an option, you can take advantage of the tips outlined above to strengthen your financial profile and qualify for discounts from your lender.

You should also keep an eye on the news since the FOMC will meet again in September, November, and December. The State of the Union address in January or February 2024 will also likely touch on inflation and interest rates.

Affordable Car Financing With Power Financial Credit Union Helps Your Do More With Your Money

Auto loan rate trends include economic conditions, personal factors, and each lender's approach to assessing risks. With the current economic climate resulting in higher rates, it's more important than ever to work on your creditworthiness and ask your lender how you can qualify for discounts.

With transparent and competitive rates, Power Financial Credit Union makes financing a new or used car affordable, even as federal rates remain high. Learn more about our auto loans to get started!