0% APR Car Deals: Is There a Catch?
If you’re in the market for a new car, chances are you’ve seen dealership advertisements for 0% APR. You may be wondering what this means and if it’s too good to be true — and you’d be right to question it.
Always read the fine print to determine what the real deal is. There are some situations where a 0% APR car offer may be a good deal, and we’re going to talk about those, as well as some cases where the deal might not be as sweet as it seems on paper.
If you’re wondering whether to jump on a 0% car deal during the COVID-19 pandemic, keep reading to see if it’s a good fit for you.
What does 0% APR mean?
Before you consider 0% APR car deals, it’s important to understand what APR means. When you borrow money, you typically must repay the lender plus interest. An interest rate is the percentage of the principal that the lender will charge you. An annual percentage rate, or APR, is that yearly rate plus lender fees (not dealer fees). Part of your monthly car payment will go toward paying the lender and part will go toward your loan.
A 0% APR deal means that you can borrow money for free and 100% of every payment you make is applied to your loan.
Why would an auto dealer offer 0% APR?
Short answer: It’s a way to sell more new cars. The lenders that offer 0% APRs are linked to auto manufacturers, and these “captive” lenders can offer loans with no interest because the company as a whole makes a profit from the car sale. For example, Toyota’s 0% financing deals are offered by Toyota Financial Services, or one of its financing arms, only on Toyota vehicles.
Low APR deals also serve as a way to get customers in the door. Even if a customer may not qualify for the 0% APR, you may still obtain a low interest rate with the captive lender. But it may feel like a bait and switch if you pick out a car, test drive it and negotiate a price only to find out you don’t qualify because your credit isn’t quite good enough.
Get preapproved: This is why it’s ultra-important to review 0% car deals closely and get preapproved for an auto loan before you go to the dealership. A preapproved auto loan offer will not provide you with a 0% APR in all likelihood, but it can give you an idea if you’re eligible for the lowest rates and let you know how lenders see your financial health. And this way, if you’re not approved for a 0% APR at the dealership, you still have your preapproval offer to fall back on.
What to watch out for
If you do qualify for the 0% APR loan, keep in mind that dealers will still aim to make money by selling add-ons, such as extended warranties or GAP insurance — and this becomes one of the major ways they can take you for a ride. Make sure you negotiate the actual price of the vehicle as well as add-ons, and don’t just take the first deal offered. If the dealer says add-ons are required for the 0% financing, ask to see the policy in writing.
Beware of 84-month auto loans.
Since low car payments may be a priority, 84-month auto loans could be especially tempting right now and lenders may be offering them more often. However, be aware that a seven-year car loan has a lot of downsides and may not be right for you.
Deferral means you’re postponing payments, not skipping them altogether. You will still have to make those payments, just at a later date, during which time interest will continue to accrue.
Likelihood of qualifying for 0% APR car deals
The lower your credit score, the lower your chances of qualifying for a 0% APR car loan.
According to Experian, you’re looking at a score above 740 to qualify for the top financing rates for new cars. However, you may be able to qualify with a lower score, because lenders are considering your entire credit history, as well as different versions of your credit score, including your FICO Auto Score. Lenders will also look at the types of accounts you have opened, when you opened them, the credit limit or loan amount, the account balance and your payment history.
To improve your chance of qualifying, you’ll want to make sure you have a strong credit history and credit score. This means:
- Paying your bills on time.
- Having different types of loan accounts on your credit report.
- Having a long history of successful credit.
- Keeping credit card balances low.
What else your lender looks for
Two other factors are important in how a lender determines whether you qualify for a 0% APR loan. The first is your debt-to-income (DTI) ratio, which helps a lender judge your ability to repay your car loan. You may learn more about DTI, including what a good DTI is and how to calculate it. The second is your loan-to-value (LTV) ratio. A loan is considered riskier if the borrowed amount is higher than what the collateral is worth. So if you have negative equity from a trade-in, you may want to consider making a down payment.
Is there a catch?
Strong credit is required, as we’ve mentioned, but you also won’t find 0% APRs on just any car on the lot. Here are some of the limits of 0% APR financing:
- New cars only. It’s worth noting, however, that you can find low APR deals on certified pre-owned vehicles.
- Limited choice. Automakers offer the best deals on the models that they want to sell quickly based on supply and demand. You may be able to obtain 0% APR on one model but not another, depending on when you go car shopping. Tell your salesperson that you only want to look at cars that are available for the 0% APR financing program.
- Shorter loan terms. The dealer may be offering 0% APR on a 48-month loan, but a 1% APR on a 72-month loan. In general, you may have to choose a relatively short term for the best deal. Deals during the COVID-19 pandemic are an exception, with manufacturers offering 0% financing for as long as 84 months; however, you should beware of such long terms.
When to take the deal
If you feel like you’ve negotiated a good price on the vehicle you want to buy, as well as your trade-in, and you qualify for the 0% APR car deal, then there may be nothing wrong with taking the deal. If there are other incentives offered as a secondary option to your 0% financing rate, then the choice may be a little harder. In most cases, the dealer may offer you a rebate incentive in place of the 0% APR offer.
If you must choose between a 0% financing offer and a rebate, it is almost always better to take the rebate, especially if you don’t plan to keep the car for the full length of the loan term.
It really comes down to the math, according to Greg Bohrmann, board member of the AAA Fair Credit Foundation, who provided this example.
|What’s Better: 0% Financing or a Cash Rebate?|
|Zero interest||Cash rebate|
|Payment||$500/month for 60 months||$516/month for 60 months|
|Amount owed after 3 years||$12,000||$11,399|
If you focus on monthly payment, it looks like the better deal is the 0% APR. But if you look at the bottom line after three years into the five-year loan, the rebate is the better deal. Ultimately, your choice will depend on what’s important to you.
Double dip: But there could be a way to have your cake and eat it, too — double dipping is when you take the rebate in exchange for the higher APR, but after a month or so, turn around and refinance it at a lower APR from another lender, such as a credit union. Learn here how to get the lowest auto refinance rates.
When it’s not worth it
A 0% deal may not be worth it if it’s not available on the car you want or, as shown above, you can get a better deal by taking the rebate and/or double dipping. But there are other cases in which it may not be the best choice.
When a new car isn’t in your budget
Zero-percent deals are only offered on new cars. According to Edmunds, new cars lose about 20% of their value in the first year of ownership and up to 60% of their value in the first five years, so a used car is almost always going to be less expensive to buy. See more on whether to buy a new or used car.
When the cost of ownership doesn’t fit your monthly budget
Besides the car payment, you probably need to cover auto insurance, fuel, maintenance and possibly parking passes if you need to park in a city. How much a car costs is higher than its sticker price, and it’s best to be sure that you can comfortably afford it.