If you need a car but cannot afford to buy one with cash, you have a few options. However, if you have bad credit, they are limited. Essentially, you have one of the following three choices: borrow a car from a friend or family member, buy a car using a subprime auto loan, or rent to own.
Relying on family or friends can be fine—until it isn’t. And if you are stuck using a subprime loan, you're going to pay a higher rate than someone who has excellent or good credit. In fact, the average interest rate on a subprime auto loan was 9.41% for a new vehicle, according to CarsDirect at the end of 2021, and could be even higher, depending on your credit score. Contrast that with borrowers with good credit who can get a loan at 3% or less.
That leaves one option: Rent-to-own, which may look like a better option when considering high-interest rates. However, you need to consider all aspects of the deal in order to decide whether it is, in fact, the better choice for you.
- Purchasing a vehicle through a rent-to-own option is much easier than financing or leasing for those who have bad or no credit.
- There are no credit checks required with rent-to-own and no interest.
- Consumers make payments more frequently for overpriced cars through rent-to-own programs, but vehicles come with no warranties.
Good Credit vs. Bad Credit
Interest rates for car loans are still very affordable, but generally only for those who have stellar credit. You're bound to see great incentives from dealers trying to get you through their door and into the driver's seat of a new ride.
Some dealers offer rates as low as 1.9%, while others entice consumers with a whopping 0% rate—provided you finance with them. That's pretty good, but again, only if you have excellent credit. Most people with good credit scores can still get a good rate. As noted above, interest rates through other dealers and other lenders hover below the 3% threshold. But what if you've been a little lax on your previous payments, resulting in a low score? You can still finance your purchase, but it will cost you.
First, let’s compare the terms for a $10,000 car loan when you have good credit versus when your credit is bad. The monthly payment on a $10,000 car loan for three years at 3.61% for someone with good credit is $255.37. That same loan for a deep subprime borrower at 19.87% is $369.90 per month.
In this scenario, the subprime borrower pays a total of $6872 more in interest for the same car over the course of the loan than a person with good credit, or an extra $114.50 per month in interest. If the monthly obligation is too high for you, rent to own may be worth considering, but it might not save you much or any money.
What Is Rent-to-Own?
The rent-to-own market allows people to get a car without requiring a credit check. This makes it much easier to qualify for purchase if your credit is less than stellar—even a subprime loan requires a credit check. All you need to show is proof of identity, residence, and income.
How Rent-to-Own Works
One benefit of rent-to-own cars is that they're easier to get. Payments are made on a weekly rather than monthly basis and usually range from $75 to $100 per week, depending on the base price of the car. You'll probably also need to make a down payment on your car. There are no interest costs that can build up, but there is usually a $25 fee for late payments.
Generally, you make payments directly to the car dealership, but if you purchase from a large chain, payments may be managed using a national bill-paying service. It's something like leasing a car except that a portion of the payment goes toward purchasing it at the end of the lease period.
Rent-to-own programs come with a higher payment frequency, so you may be making weekly or biweekly payments for your vehicle.
Car dealers that offer rent-to-own options usually cater to the subprime market and push high-mileage, mechanically sound cars that could otherwise be sold at auction for $5,000 to $6,000. They sell these cars for at least a 100% markup of the auction price and base the rental price on this markup. So, if a rent-to-own dealer offers you a price of $10,000, it is likely they bought the car for $5,000 at auction.
You’ll be required to make a down payment and weekly payments that add up to the $10,000 price. While the dealer won’t charge you interest, he makes his money on the 100% markup on his original cost for the car, plus any rental fees he adds during the rental period.
Rent-to-Own vs. Subprime Loan
Here’s an example of the costs of rent-to-own. On that $10,000 car, the dealer may expect a $2,000 down payment and payments of $45 a week for 260 weeks—that's a total of five years. In this scenario, you end up paying $11,700 (260 x $45) in weekly payments. The total cost, including the $2,000 down payment, out of pocket is $13,700. For the sake of comparison, if you figure the payments on a monthly basis, it amounts to $195 or [($45 x 52) divided by 12].
If you buy the same car for $10,000 using a deep subprime loan at 19.87%, your monthly payment is $369.90 per month. That's much higher than the rent-to-own loan. In addition, the total out-of-pocket cost for the subprime loan amounts to $8,494 more than for the rent-to-own program—$22,194 (36 payments at $369.90) versus $13,700.
When considering rent-to-own versus a subprime auto loan, you should do a similar calculation to be sure the rent-to-own option makes sense for you. An auto loan calculator can help ensure you aren't forgetting to factor in any elements that might affect your comparison of the two products. In this example, you'd be stuck with a down payment and a slightly higher monthly cost. A subprime loan might be the better choice.
What About Leasing?
Leasing is another option and has become quite popular with many drivers. Payments are cheaper than financing a vehicle, and you have the added incentive of changing your car every three or four years, depending on the term of your lease. But this option still may not make sense if you have bad or no credit.
Leasing is like financing—it's a type of loan with a slight twist. Instead of paying for the entire purchase through your monthly payments, you're basically renting the car for the length of your lease. You pay for the depreciation of the vehicle plus interest and fees each month. Once you reach the end, you have the option of buying it out or leasing another vehicle.
This means the dealer needs to run a credit check. If you have great credit, you'll end up getting a lower rate, which lowers your monthly payment. Bad credit or no credit means a much higher payment or worse, no lease at all. And your payment history will be reported to the credit bureau.
Advantages and Disadvantages of Rent-to-Own
Here are the good aspects of getting a car through a rent-to-own program:
- Ownership: At the end of the rental term, you own the vehicle. But check to be sure whether you first need to make an additional payment before you own the car.
- No Credit Checks: A credit check is not required, but it is a good idea to ask the dealer to report your payment history so you can build a better credit history in the future. This is, of course, as long as you make on-time payments.
- No Interest: Remember, you're only paying the rental fee, which goes toward the entire sum of your loan, so there's no interest on top. But keep in mind, you're probably paying the dealer markup.
And here are the downsides:
- Overpriced Cars: Rent-to-own cars are usually marked up more than other used cars because that’s how the dealer makes a profit since there is no interest payment on these cars, and he’s not profiting from the sale of a subprime loan.
- Frequent Payments: You pay back the loan weekly—far more often than the average car buyer who pays monthly. Having to make 52 payments a year can make it easier to miss a payment and incur a late fee.
- No Warranty: Typically, there is no warranty on a rent-to-own contract, so if the car breaks down the week after you sign the contract, it’s your problem to fix.
Car title at the end
No credit checks
No interest payments
The amount of your weekly payment that goes toward buying out the car at the end of the rental period will differ. Be sure you know how much of that weekly payment will go toward ownership of the car and how much toward rental. Also, more money may be due at the end of the rental term, so be sure you have in writing what that amount will be, should you decide you want to buy the car at that time.
Review your contract regarding terms for early termination. This can be critical if you find the car needs a lot of repairs. You may decide a few months or even a year down the road that you don’t want to own the car and would like to end the rental. You may lose your down payment and any money paid toward the purchase of the car, but at least you’re not stuck with a subprime loan on a car that is no longer working.
The Bottom Line
A rent-to-own car deal may not save you money, but it may be a viable option, depending on your weekly budget. You will also likely find it easier to get out of a rental contract than a subprime loan.