How do auto loans work?

Auto loans, like home loans, are secured by an asset. If you take out a loan to buy a car, the finance company will hold title to your car until it is paid off. At that point, it will sign over the title to you.

Your monthly payment depends on the price of the car, including related expenses such as tax, title and license; the size of your down payment; the interest rate; and the term of the loan. Most auto loans are for three to five years. Your interest rate will be based largely on your credit score.

If you plan to finance a car, always shop for a loan before you head to the dealership. Banks, thrifts and credit unions all offer car loans, as do specialized auto-finance companies and organizations such as AAA and USAA. To compare auto-loan rates in your city, go to http://www.bankrate.com/brm/rate/auto_home.asp. Make sure you focus on the Annual Percentage Yield or APY, not the stated interest rate.

Try to get a pre-approved, non-binding loan before you talk to a dealer. That way, you can negotiate the price of the car separate from the financing. Once you have bargained the dealer down, ask what kind of financing he could provide. If it’s better than what you could get on your own, take it, but make sure you read the fine print. Don’t assume that zero-percent dealer financing is the best way to go; many dealers mark up the price of the car to make up for low-cost loans.

For more on auto financing, see http://www.edmunds.com/finance/