Why is it harder to get a car loan in 2023?

When the time comes to purchase your next vehicle, you want to focus on finding your dream car, not fighting for affordable financing. But since the pandemic’s early days, the car market has shifted. Inflation made finding competitive rates challenging, and supply chain issues pushed average car prices above MSRP.

Before setting out to find summer deals on new wheels, consider how the state of our economy will impact your price.

Economic outlook makes lenders cautious

Securing vehicle financing is a challenge for borrowers right now due to one primary issue.

“It’s harder to get a car loan now because it’s hard to get a car,” shares Satyan Merchant, SVP and Head of TransUnion’s Auto Finance Business.

The current state of the economy has shifted the lending environment to make buying a challenge, even for those drivers who’ve found their perfect set of wheels.

Lenders have tightened their standards, leading to a decrease in vehicle loan originations. And higher rates make even inexpensive vehicles a challenge to afford.

Vehicle originations down

With vehicle prices lingering above average compared to pre-pandemic years and interest rates still climbing, it’s no surprise that buyers are wary.

The third quarter of 2022 closed with 6.6 million originations, down from 7.3 million in the same quarter in 2021, according to TransUnion data. What’s more interesting on the consumer side is while subprime borrowers tend to receive the worst rates, originations are down the least amount compared to other credit bands.

While this seems out of line, it is important to note that subprime borrowers tend to be in more complicated financial situations than prime borrowers, for example. That originations in this credit band remained steady could be explained by many borrowers falling under subprime still needing financing to afford a vehicle —  even if that means signing off on less-than-ideal rates.

Lenders tightening their standards

Banks, credit unions and online lenders exist in the same economic environment as borrowers. Just as many Americans are having to tighten their budgets, lenders must tighten their spending and lending habits in response to the increased cost of lending.

The Dealertrack Credit Availability Index, a Cox Automotive measure of access to credit, tightened in the month of May. A decline of 0.4 percent brought availability to its lowest since February 2021. That means it’s currently harder to get auto financing than it’s been in the last two years.

Proving the point, auto loan approval rates are down 2.4 percentage points year over year, the report noted. So not only are many consumers avoiding vehicle financing altogether, but more lenders are turning drivers down.

Cox Automotive observed more borrowers choosing longer loan terms and fewer borrowers putting down large payments.

Many borrowers opt for long loan terms to walk away with a smaller monthly payment, but experts recommend against extended loan terms. They can leave you paying more across the lifetime of the loan and being stuck with the same vehicle longer.

Putting down a sizeable down payment is a good move as it lowers your monthly cost.

Potential wins of cheaper cars negated by high rates

The month of March finally brought with it a month-over-month average new-vehicle transaction price decline. On average new vehicles cost buyers $48,008. While this number is still quite high, it is below MSRP for the first time in 20 months, according to Kelley Blue Book. In May, prices rose slightly but remained under sticker price, averaging $48,528.

But while car prices are steadying, the cost to finance said vehicles is increasing. Merchant compares the combining factors influencing monthly payments to ingredients mixing in a cauldron. The amount you pay each month comprises the amount you finance, the terms you agree to and the interest rate you receive.

“When you mix it all up,” he says, “the average monthly payment on both new and used vehicles continues to tick upwards.”

He explains that “even if there’s some easing on one of those factors in the cauldron,” other factors may work against each other.

Many buyers are seeing that “there’s some easing on the cost of the vehicle, but at the same time that interest rate went up,” Merchant concludes.

This means walking away with a good deal, especially for borrowers with poor credit, is a challenge. It’ll likely stay a challenge over the next year, as rates are not expected to drop soon.

How to get vehicle financing even with high rates

Increased vehicle interest rates will be an unavoidable truth, at least for the next year. If you’re planning to buy a new vehicle before the new year, consider the following tips to secure the best auto loan.

• Shop around. When looking for the best financing option, it is important to compare at least three different lender choices. Pay close attention to available fees, terms and rates for your credit score.
• Apply for loan prequalification. Prequalification gives you a firm grasp on expected monthly payments to ensure you can truly afford what you sign off on.
• Add a co-signer. If your credit is lacking and affordable rates are out of reach, adding a co-signer with strong credit can dramatically improve your rates.
• Calculate the true cost of ownership. Consider the all-in cost of owning and operating your vehicle before agreeing to a monthly cost.

Next steps

It takes many moving parts working in synchrony to get your dream car to the dealership lot — and then into your driveway. With inflation adding friction to the system, you should prepare to spend a bit more money on financing. Lenders are apprehensive about providing funding for borrowers, so those with strong credit will be the most likely to find competitive rates.