The Best Kind of Car Loan
Have you done this in the past: you research online for a car for days – if not for weeks. You find one or two makes and models that fit your needs and you start visiting car dealerships to look for and test drive several models. You negotiate with the salesman like a pro over the price of the car, eventually ending up with a price that (if you were to say so yourself) is a pretty sweet deal.
And then you go looking for a car loan and sign on the dotted line for the first one you see.
Shopping for the right car is important. And so is shopping for the loan to go along with that car. In fact, it’s pretty much as critical because the length and the amount of interest you’ll be paying during the life of the loan can mean the difference between paying a few thousand dollars in interest or several thousand dollars.
If you remember anything, remember this: as you look for cars, don’t make your primary focus on the monthly loan payment because you could easily end up with a bad loan deal. While you should be aware of what your monthly payment will be, you want to be aware of things such as its length and the interest rate you’ll be charged.
The Lower Your APR and the Shorter the Term, the Better
When comparing loans, focus on the annual percentage rate and length of the loan
A lower APR can mean you’ll save significantly in the long-term. Take, for example, a three-year, $15,000 loan at 7 percent APR or at 5 percent. The 5 percent loan will save you $500 over the life of the loan.
In addition, a three-year loan will save you considerably in interest payments compared to a five-year loan. A shorter loan will mean you’ll be paying more in monthly payments, but you’ll end up paying less money over all.
Here are the numbers: A three-year, $15K loan at 6.5 percent APR will see you paying $460 each month and paying $1,550 in interest over the life of the loan. But a 5-year loan at 6.5 percent lowers your monthly payment to $293 each month, but you’ll pay $2,610 in interest. Note, however, that these numbers don’t take into account the fact that longer loans almost always come with higher interest rates, so you’d probably pay even more in interest than in this example.
Speaking of longer loans, try hard to steer clear of any car loan that’s longer than five years (60 months). Not only will you pay a higher interest rate and end up paying more in interest over the loan’s life, it also will take you longer to build up equity in the vehicle (a good portion of the first two years or so of the loan will see you only paying interest; you won’t be paying anything on the loan’s principle).
This can hurt you later. For example, let’s say you want to trade the car in in 18 months. With a long loan, you well could find that you still owe more on the car than it’s worth. This is known as being “upside down.” This also could harm you if the car is stolen or in an accident: your car insurance may not pay you enough to pay off the remainder of your loan.
If possible, you should try to give a 15 percent down payment when buying the car, or have a trade-in that provides that percentage.
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