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Go Car Shopping with Your Loan Options in Order

Shopping for car financing in advance can mean a better car loan. Compare the Annual Percentage Rates (APRs) of different loans. If all other things are equal, the car loan with the lowest APR is the best deal.

Having your financing in hand when you go car shopping is a good idea because that way you negotiate based on the price of the car, rather than monthly payments. You must make many decisions about financing your car, including answering these questions:

  • Should you finance or pay cash? When you pay cash, you save finance.

  • How much down payment do you pay? If you make a higher down payment and finance your car for a shorter period of time, you don’t have to dole out so much cash.

  • How much will you pay each month? The amount of your monthly payment depends on your loan amount, loan term, and the interest rate of your loan.

  • How long do you keep your car? Industry experts note that new cars depreciate between 30 percent and 40 percent in the first two years after they’re made.

Vehicles can be financed through banks, credit unions, or other similar financial institutions. This type of financing is called direct lending. You agree to pay the amount financed, plus a predetermined finance charge during a specified period of time. The following are a few online sources for information about auto loans:

  • Bankrate.com reveals what the current APR is for an auto loan.

  • E-Loan enables you to shop several lenders for your auto loan at one Internet location.

  • Lending Tree gives you opportunity to check out several lenders' rates at one online location.

Dealership financing means you and the dealership enter into a contract. You agree to pay the amount financed, plus a predetermined finance charge during a specified period of time. The dealership may retain the contract but usually sells the loan to a bank, finance company, or credit union, which, in turn, services the account and collects payments.

The finance and insurance departments of the dealerships require you to complete a credit application, and with your permission, obtain a credit report and your credit score. Your credit history, current finance rates, competition, market conditions, and special offers affect your APR.

The following table shows a comparison of a three-year auto loan to a five-year auto loan. In most cases, the longer the loan’s term, the lower the monthly payments and the higher the finance charges. For the sake of argument, say that the interest rate is the same for both the three-year and the five-year auto loans.

The monthly payment for the five-year loan is $406 compared to $627 for a three-year auto loan. Although the low monthly payment seems attractive, the cost is high. Total interest payments for the five-year loan are $4,332 compared to $2,562 for the three-year loan. Bottom line: The longer the loan, the higher the financing costs. In this example, the total difference is $1,770.

Comparing Loan Terms for Car Financing
3 Years (36 Months) 5 Years (60 Months)
Amount Financed $20,000 $20,000
Contract Rate (APR) 8% 8%
Finance Charges $2,562 $4,332
Monthly Payment Amount $627 $406
Total Payments $22,562 $24,332
Down Payment 10% 10%

Note: All dollars are rounded in this example.

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