What Is the Difference Between Tier 1 & Tier 2 When Purchasing a Vehicle?

Lenders and other creditors report information to the credit bureaus. This data is used by the bureaus to create your individual credit report. Information in your credit report determines your Fair Isaac Corporation, or FICO, credit score, which ranges from 300 up to 850. If you're purchasing a vehicle, it's important to understand how having Tier 1 or Tier 2 credit can impact the terms of your auto loan.

Credit Scores

Your credit score has five distinct components, according to FICO. The bulk of the score measures how well you pay your bills and accounts for 35 percent of the score. Thirty percent of the score is the amount of debt that you have. The average length of your credit history is 15 percent of the score. Ten percent of the score is the mix of credit types that you use, and the remaining 10 percent is the amount of new credit you've recently applied for.

Considerations

The higher the FICO score, the less of a credit risk you are to lenders. A Tier 1 credit score is 720 or above. Someone with this score is considered less risky than a person with a Tier 2 credit score, which ranges from 700 to 719. Whether your credit falls into a Tier 1 or Tier 2 will help determine what interest rate the auto lender will give you. Generally, Tier 1 credit will receive a lower interest rate than Tier 2.

Significance

An auto loan is often financed over a period of years ranging from 36 months, or three years, up to 72 months, or six years. The interest rate on that loan will decide how much that car purchase will cost you overall. The higher the interest rate, the more you will pay in interest over the life of the loan. For a 72-month loan, a buyer with Tier 2 credit may receive an interest rate of 7.19 percent from a dealer, whereas a Tier 1 credit buyer may receive 6.74 percent, according to Edmunds.

Tips

Auto loan rates may vary from dealer to dealer and from one type of financial institution to the next. Credit unions may have lower rates for members than the rates offered at an auto dealership. Shop around to see who can give you the lowest rate. Each time a creditor pulls your credit report, however, a hard inquiry is placed on the report. Too many inquiries in a short period of time can cause your score to drop. According to FICO, if you're rate shopping for an auto loan within a two-week period of time, the scoring model will view those multiple inquiries as one, and this will have less of an adverse impact on your score.