Auto Loan

What is a auto loan?

A loan that is used to purchase a vehicle is known as an automobile or auto loan. The vehicle purchased with the loan money is held by the lender as collateral until the entire loan amount with interest has been paid. This is known as hypothecation to the bank or finance company. In case the customer defaults on the loan, the lender holds the hypothecated vehicle to recover their dues. On repayment of the full amount, the ownership documents are changed to reflect complete ownership by the customer.

What kind of vehicles can I get with an auto loan?

An auto loan is e used to buy new cars, used cars and two-wheelers (known as a Two-Wheeler Loan). It can also be used to buy commercial vehicles like, for example, trucks or buses when it is known as a Commercial Vehicle Loan.

How do I qualify for an auto loan?

The loan approval process for an auto loan is shorter and simpler compared to a housing loan. Lenders are primarily interested in your income and your credit history. They want to know if you will have the financial means to pay back your loan and also whether you have demonstrated a pattern of responsible repayment behaviour in the past. You also need to be a minimum of 21 years of age to apply for an auto loan.

Specifically lenders look at:

Employment profile and income: Lenders want to know if you have stable employment and a steady monthly income that will ensure loan repayment over the entire duration of the loan. If you have changed jobs frequently in the past, lenders will be wary about approving your application. They are unsure if you will have an uninterrupted income inflow that will allow you to make your monthly payments. It is a good idea to make sure that you have been with the same employer for at least a year when you apply for a loan. Some lenders even insist on continuous employment of at least a year with the same employer to be eligible for a loan.

Current EMI payments: In general, lenders do not want your entire EMI burden - across all your loans - to exceed a certain percentage of your monthly income. If your EMI obligations form too high a percentage of your income, lenders might judge that you will not be able to sustain additional debt payments. If your total monthly EMI burden is more than, for example, 50-60% of your income, lenders are doubtful if you can spare any more money to repay an additional auto loan. There is a chance that your loan may be rejected. So when applying for a loan, make sure that your total EMI outflow is not too high a percentage of your income. If it is high, then try and pay off some of the smaller loans so that your overall EMI burden decreases and frees up some of your income for repayments on your auto loan.

Credit score: Like all loans (except maybe a gold loan), lenders pay particular attention to both your current credit health and your past history. In general, lenders tend to look for a credit score of 750 and above before deciding whether to move on to the next stage in the application process. If your score is less than 750, there is a strong chance that your application will be rejected. Lenders see a below -750 score as indicating problems with credit discipline and might be unwilling to proceed with your application. It is therefore important to ensure that you have a good credit score before you apply for an auto loan to avoid loan rejection.

Credit report: While your credit score reflects your current credit health, your credit report reflects your past credit behaviour. Even if you have an adequate credit score today, lenders will look at your credit report to get an idea of the pattern of your past payment history. If you have a high percentage of late or missed payments in the past, lenders will tend to reject your application as they do not want to run the risk of any repetition of this defaulting behaviour.

I am planning to apply for an auto loan, what should my first step be?

First, it is important to obtain a copy of your credit report well in advance of applying for a loan in order to minimise the chance of rejection. You need to concentrate on improving your credit score to at least 750. This can take an average of 4-12 months, depending on how serious your individual credit situation is. If you have a low score, you can spend time improving your score so that you become loan-eligible before you apply for a loan.

Once you improve your score, you are in a position to have your loan approved and avoid the chance of rejection. Also, a higher score means you can avail of more attractive terms that will lighten your repayment burden.

What is the loan amount and tenure?

In general, lenders can give up to 90% of the invoice value of the vehicle. Some lenders offer even 100% financing on certain brands and models of cars. The invoice value does not include the additional costs incurred when you buy a vehicle such as taxes or insurance. The invoice value refers only to the price of the vehicle.

The tenure on an auto loan varies from 1-7 years. Again, lenders will decide the loan period based on your monthly income and ability to repay. Auto loans have a shorter repayment period than home loans since the loan amount is relatively smaller.

What are the interest rates on an auto loan?

Unlike home loans, auto loans have fixed interest rates. Your lender will fix a rate based on, among other factors, the type of vehicle or the loan amount. For instance, the interest rate on a loan for purchasing a luxury car will be lower than a compact car since the down payment made on a luxury car is far larger.

What is EMI?

EMI stands for Equated Monthly Installment. It is the amount you need to pay on a monthly basis to repay your entire loan. It consists of principal plus interest due, spread over the entire tenure of your loan. If your loan period is 20 years, then you will be paying an EMI every month for 20 years. Several lender websites have the option of an EMI calculator which will give you an idea of how much your EMI will be for the tenure of the loan.

If your monthly EMI burden across all your loans is too high, it can leave you with insufficient funds every month for your other expenses. You can reduce your EMI outflow by lengthening the tenure of the loan. However, also keep in mind that if you extend the tenure of your loan, you will be paying out more in interest charges since your repayment obligation is over a longer period.

What is the documentation required for applying for an auto loan?

The loan application form will list all the documents required for an auto loan. The documents could include (among others) identity proof, residence proof, salary slips and bank statements. The actual documentation required varies according to each lender and depends on your individual professional situation. For instance, those who are self-employed (in sole proprietorship or a private partnership) may need to provide a different set of documents (such as IT returns). It is best to read the documentation required listed in the loan application.

Do I need a guarantor for a loan for a new car?

Many lenders do not ask for a guarantor or co-applicant for an auto loan for a new car. However, if your income does not meet the lending criteria, then you might be asked for a guarantor to stand as surety for the loan.

What are the other costs incurred in addition to the actual vehicle cost?

At the time of purchase of the vehicle, you will need to factor in associated costs like registration fee, taxes, and insurance. Once you have bought the vehicle, additional loan-related expenses can include a processing fee and documentation charges, stamp duty, and prepayment penalty ( if applicable) , among others. It is best to read through the application form in detail to see what you will need to pay in terms of lender charges. Many lenders have these charges listed on their website. Make sure you are fully aware of all the fees and charges when you are applying and clarify all your doubts at the application stage.

Is it possible to pre-pay the entire loan amount?

It is possible to pre-pay your entire auto loan subject to certain provisions. You might also need to pay a penalty for exercising the pre-payment option. Moreover, some lenders may not allow a partial pre-payment and may only entertain a full pre-payment of the entire loan amount with interest.

Do I need to use the lender suggested by the auto dealer?

No, it is not obligatory to use the bank/NBFC recommended by your dealer. The advantage of using the dealer-recommended lender is that the dealer will take care of most of the paperwork and the loan process might be smoother.

However, the disadvantage of not looking at other lenders is that there might be other offers in the market that are more attractive and that will save you more money.

It is best to research all the loans schemes on offer and decide which lender/offer suits your requirement best.

Is it advantageous to apply for an auto loan with my existing bank?

Some banks might offer attractive terms and conditions for existing customers. You will also need simpler documentation since the bank already has many of your details. However, it is important to shop around and evaluate the other options available in the market. There might be other lenders who offer better terms even though you might not be their customer.

How can I apply for an auto loan?

There are 3 ways in which you can apply for a loan:

You can apply online on the lender's website and upload the necessary documents. Several lenders offer you the facility of tracking your loan application online.

You can call or sms the lender and arrange for a representative to contact you.

Alternatively, you can visit your preferred bank/finance company and complete the loan formalities in person at the branch.

How do I know which car/loan offer to choose?

The only way to make a decision is to do thorough research on the various options offered. Some lender websites have a section on the various cars on the market that might help you get a more comprehensive idea of what is available in the market, without having to visit multiple dealers.

Similarly, read up on all the offers compare the features and benefits, and determine which offer best fits your credit requirements.

Above all, do not rush the decision. An auto loan can be a years-long commitment and it is important to find both the vehicle and the loan offer that is most suitable.