In case you missed the subtle message above, it is very important to arrange your financing before you start negotiations. Many lenders will pre-approve you for a certain loan amount based on your income and credit history. With these data in your pocket when you hit the streets, you'll know exactly how much car you can afford and be able to leverage your financing deal against financing offered by the dealership.

Negative equity

The value of a new car drops dramatically as soon as you drive it off the lot. That's because it then becomes a used car. It doesn't matter that you only used it for five minutes -- it's still used and is worth much less because of that fact.

This depreciation is an important concept to understand when dealing with financing because, while the value of your car drops immediately, your loan principal drops more gradually. So if you try to sell the car too soon, you may end up owing more on it than you can sell it for. That's called negative equity.

You can avoid getting into negative-equity situations by following these simple rules:

1. Keep your car until it is paid off completely. Obviously, no matter how much your car depreciates, you won't have negative equity if you don't owe anything.
2. Don't buy a car that's too expensive. If you struggle too much to make the payments, you may decide to sell the car earlier than is financially prudent.
3. Don't drag out your payments. You might get a slightly better interest rate and your monthly payment will be smaller, but it will staple you to that car for the financing term. Five years later you'll still be paying for a car that may no longer fit your needs.
4. Make the biggest down payment you can. This will help offset the effect of depreciation and start giving you some positive equity.

Important finance vocabulary

Total Price
This is the price upon which you and the dealer finally agree, minus any rebates. The dealer will calculate tax based on this amount.

Down payment
This is the chunk of up-front money that you put down to symbolize your intent to pay off the rest of the vehicle. The more money you pay up front, the less you'll pay every month to follow. A larger down payment may also score you a lower interest rate.

Interest Rate
This is one of the most important numbers to look at when you're choosing a finance option. It's the rate a lender charges you for the benefit of borrowing its money. In the world of automobile financing, interest rates are generally referred to as APRs: Annual Percentage Rates. The APR is a rate of interest, calculated yearly, that includes all of the fees and expenses associated with acquiring a loan. It is always tied in with a loan term. It might be, for example, 1.8% for 36 months, or 2.8% for 48 months. A higher interest rate will increase your monthly payments. To see how much the interest rate affects the total amount you'll end up paying, play around with our loan calculator.

Term
This is how long you will be paying the loan down. The longer the term, the smaller your monthly payments will be -- but the more total interest you will pay.

Where do you get the money?

Financing can be arranged either through the dealer or through a separate lending agency. Who should you finance with? Whoever gives you the best deal, of course.

Dealer financing
The big advantage of dealer financing is convenience. You buy and finance the car all at once. In addition, dealerships do some of the legwork for you. They have all the numbers in front of them and save you the hassle of collecting different bank rates. But if the dealer is just reselling a bank loan to make a profit, the rates won't be the best. Occasionally, dealers offer special rates to get rid of overstock, especially at the end of a model year. So make sure you ask them about financing and compare their offer to your prearranged financing.

Banks
You can usually get a lower interest rate at a bank than a dealership, especially if you are an existing bank customer. They'll probably require a 10-20% down payment to cover the depreciation of the car in case you default on your loan and they need to repossess your car.

Credit Unions
Credit unions have lower overhead costs than banks. This allows them to offer lower financing.

Home Equity Loans
You need to own a home to get a home equity loan. Here, you use your home as collateral for the loan, which is a little bit scary. If you can't pay the loan, it is possible that the lender could commence proceedings to sell your home.

The Internet
As with everything else these days, you can shop for car loans on the Internet. You miss out on any kind of personal relationship, but you can get quick approval and very competitive pricing.

The power of a trade-in

Your old vehicle is basically a very large coupon that you can trade in for a discount when you buy a new vehicle. If it's worth enough, you may be able to use it as a down payment. Trade-ins are a convenient way to use the car you already own to help purchase a new one.

But it's not all good news. What you gain in convenience with a trade-in, you may lose in price. Generally speaking, you don't make as much from a trade-in as you would selling your car on your own. And doing it yourself might not be as difficult as you imagine, provided you price it reasonably enough, and it is a car that's at least a little bit in demand. But if you don't have a high-demand car or if you're just unlucky, it could be quite a drag trying to sell it. And timing could be a problem if it takes a long time to sell your old jalopy and you need the funds from its sale to buy the new one.

No matter which route you go, you can maximize the financial benefit you get from your old car by sprucing it up a bit. A clean car gives the impression that it's been well maintained. Even if you've never washed the car during the time you've had it, a thorough cleaning of the outside and an energetic vacuum of its interior will make a huge difference when you go to sell it.

Beyond aesthetics, if the vehicle is suffering from any mechanical problems, the price you get for it will probably reflect that. If the fixes are relatively minor, have them done. If they are major fixes, it may not make sense for you to take care of them, but at least consider it.

If you're selling the car, make sure everyone knows it. Get a professional-looking "For Sale" sign and write your phone number large enough for someone to be able to read from the street. If you're so inclined, you can take a sales lesson from real-estate agents and even create a flyer that interested buyers can take home with them.