How Do Auto Loans Work?

By Joseph
February 8, 2022

What is an Auto Loan?

An auto loan is a type of financing that enables you to purchase an automobile by borrowing the money. The vehicle can be new or used and only requires a credit check for approval. Unlike some other types of loans, there are no collateral requirements with this one. It’s easy to get approved if your earnings meet certain minimums because it doesn’t require any additional forms like unemployment claims do- not even tax returns in most cases!

Key Terms to Know

Before you know how a reputable credit union work, here are some terms you might come across:

Annual Percentage Rate (APR)

An annual percentage rate, or APR, is the total cost of borrowing expressed as a yearly interest charge. For example: If you borrow $25000 at an APR of 12%, your monthly payment will be about $730, and it will take 217 months to pay off the loan.

Down Payment

A down payment is an amount you put on a new car that isn’t financed. Usually, it’s between 20% and 40%.

Monthly Payment

Monthly payment is an amount you pay to keep your loan. You can pay your loan off more quickly if you make higher monthly payments.

Loan Term

A loan term is the length of time for which you borrow money. Auto loans typically range from four to six years, but your lender may offer a longer or shorter-term if you prefer.

How an Auto Loan Works

You can repay your auto loan in monthly installments. These payments depend on the loan amount, the loan term, and interest.

There are three ways of paying back the debt: 

  • Paying off the balance with a lump sum payment, which means that you’ll have to pay interest on the remaining amount; this is usually done through financing offers or refinancing your car’s mortgage when it’s due. 
  • Repayment with a fixed monthly payment, which will take longer, and you’ll end up paying more in interest over the course of your loan term.
  • Paying off the balance in equal installments over a set period. This option is similar to doing it on full layaway payments, where you pay an initial amount and then make monthly payments to pay off the balance.

Do Banks Offer Auto Loans?

Many different banks provide car loans, so ask friends and family members which bank they’ve had luck with before settling on one yourself. However, don’t forget about non-profit organizations because these groups offer zero-interest car loans. All banks provide various types and amounts, so select a loan that will work with your budget (Ideally, you should try to keep payments under $400 per month). 

Auto Financing Requirements

Credit Check

 A credit check is an examination of your credit history to determine what kind of job you’ve done managing your finances in the past and how willing you are to repay money owed. 

Most people use their credit score to get approved for an auto loan, but it’s also possible this doesn’t matter if: 

  • You’re buying a pre-owned car
  • Your employer is financing
  • You’ve had no problems repaying any previous debt obligations.

 Since lenders want to make sure they’ll be repaid by someone who can afford the monthly payments, most are willing to go through several months’ worth of bank statements before making their decision on approving you. This provides proof that either you have a good cash flow or at least enough savings to cover the monthly payments.


The minimum requirement for most people buying a car with an auto loan through their bank is $700 per month before taxes if they’re filing jointly. Otherwise, it’s about $500 per month before taxes if you file separately from your spouse- especially since there are no collateral requirements and there is no need for unemployment insurance forms. 

Unemployment Claims

 Unemployment claims are submitted to receive unemployment benefits in the event one loses their job and cannot find another within a specific amount of time (this varies depending on the country). These types of forms require things like tax returns as proof that you’ve been paying taxes throughout your employment- so it’s important not to forget about these when filling out an application form! 

Tax Returns

 Tax returns can be filled out by most U.S citizens who earn more than $600 per year. If you have trouble affording any late fees, you have until October 16th without penalty before your return becomes overdue. You should also note that there is no need to submit tax returns if you’re seeking a zero-interest car loan.

The best way to pay off a car loan is the “pay-off” option, where you make equal monthly installments over time. This will allow you to avoid paying interest on more than what’s been paid back, which can be costly if you need this money every month. The rates are usually flexible, so it doesn’t matter if your credit score is lower than perfect, so long as you’re approved.

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