Sara Routhier, Managing Editor and Outreach Director, has professional experience as an educator, SEO specialist, and content marketer. She has over five years of experience in the insurance industry. As a researcher, data nerd, writer, and editor she strives to curate educational, enlightening articles that provide you with the must-know facts and best-kept secrets within the overwhelming world o...

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Joel Ohman is the CEO of a private equity-backed digital media company. He is a CERTIFIED FINANCIAL PLANNER™, author, angel investor, and serial entrepreneur who loves creating new things, whether books or businesses. He has also previously served as the founder and resident CFP® of a national insurance agency, Real Time Health Quotes. He also has an MBA from the University of South Florida. ...

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Reviewed by Joel Ohman
Founder, CFP®

UPDATED: Jul 31, 2012

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Car loan rates are influenced by fewer factors than mortgage rates are. This is not so much a result of the massive value differences between homes and vehicles, but rather because of outside influences. Mortgages are influenced by federal and economic factors while car loan rates are more removed from the influence of national financial instruments, and instead rely more heavily on individual borrowers themselves.

The Not so Many Factors of Car Loan Rates

Car loan rates are primarily influenced by four factors:

  •  The lender
  •  The borrower’s credit history
  •  The borrower’s income and outstanding debts
  •  The loan’s term

Lenders have the freedom to raise or lower car loan rates at their own discretion. Fortunately, many lenders are intentionally keeping interest low.

Many large lenders suffered severe profit losses during the housing collapse, and some now seek to compensate for those losses by offering lower car loan rates. Since cars are necessary for most Americans to commute to and from work, school, interviews, and social gatherings, borrowers are less likely to jeopardize losing their vehicle. As a result, auto loans are currently a much more secure “bet” for lenders than most other types of financing, which allows lenders to offer such low car loan rates.

Another rate-affecting factor is a borrower’s credit history. Credit scores are revealing of the risk an individual poses to a lender. Lenders use credit reports and credit scores in order to separate borrowers who would likely repay their loan from borrowers who are too risky to lend to. Credit scores are excellent indicators of a borrower’s likelihood of making payments on time, so better credit scores lead directly to better car loan rates.

Yet another useful tool lenders use to determine risk is a borrower’s debt-to-income ratio. The debt and income of a borrower allows lenders to see the interest level and amount that a borrower can predictably afford to repay on a month-to-month basis.

Finally, a loan’s term directly influences interest levels as well. Typically speaking, longer loans have lower interest while shorter loans have higher interest.

When a loan has a longer term, such as for several years or more, a lender will be more apt to lending at lower interest since lower interest leads to lower payments, and lenders know borrowers will be more likely to keep current on an agreement with manageable payments.

Fortunately for borrowers, technology has expedited the process of finding out what interest level a lender will offer them. By filling out short online application forms, borrowers can quickly determine what interest level a lender will give them on an auto loan.

The Many Factors of Mortgage Loan Rates

On the other hand, mortgage interest charges are determined by a much larger variety of factors. The factors that influence mortgage interest charges are:

  • The federal funds rate
  • The discount rate
  • The prime rate
  • The secondary mortgage market
  • A borrower’s personal credit score
  • The presence of a co-signer
  • The number of points a borrower is willing to pay

The federal funds rate is one factor that lenders use in order to determine mortgage interest levels. The federal funds rate influences the interest level in which members of the Federal Reserve can borrow money from one another. If the federal funds rate is high, lenders raise the interest on mortgages to cover those costs. Similarly, if it is low, lenders pass those savings on to buyers through lower interest on their mortgage.

The discount rate is the level that Federal Reserve banks can borrow money at directly from the Fed. The rate at which a lender can borrow money from the Fed influences the rate that is charged to mortgage borrowers in much the same way as the federal funds rate does.

The prime rate is the index, or the baseline, for setting mortgage interest levels. In order to get a profit, lenders add a margin to the prime rate. The margin is up to the individual lender to decide. It is calculated to be both profitable and competitive.

The secondary market also affects mortgage interest charges. Since most lenders sell mortgages bundled together to investors, the interest on these mortgages affects their value. This directly influences mortgage interest levels since lenders are striving to acquire the most profit once they sell their originated home loans on the secondary mortgage market.

Credit scores impact interest charges since lenders are inclined to give lower interest rates to reputable borrowers with good credit scores.

Co-signers can assist in lowering interest charges since a co-signer with a good credit history lends credibility and security in the eyes of a lender. But a potential co-signer shouldn’t put their signature on a contract without careful consideration; both the co-signer and the borrower will share responsibility for a debt in the event the primary borrower defaults.

By paying discount points, which is essentially pre-paid interest, a borrower can often reduce their quoted interest rate.

Finally, lenders also take into account the borrowers themselves. Most banks and lenders tend to avoid high risk borrowers. Some lenders cater to borrowers with poor credit scores. To mitigate their risk these lenders offer loans carrying high interest levels.