Vehicle Financing

After purchasing a home, buying a car is probably the second largest investment you’ll make in your lifetime. Many options exist for buying an financing a new or used vehicle, refinancing an existing vehicle or purchasing a leased vehicle. Choose the method that best suits you. But remember, being an informed consumer can make a big difference in your overall experience and can save you time, money and headaches.


Here are some examples of what a $10,000 loan can cost, depending on interest rate and loan duration.

Interest Rate
(Percent)
Loan Duration
(Months)
Monthly Payment
($10,000 Borrowed)
Total
Interest Paid
0.9 36 $281.65 $139.40
0.9 48 212.18 184.64
0.9 60 170.51 230.60
6.0 36 304.22 951.92
6.0 48 234.85 1,127.28
6.0 60 193.33 1,599.80
10.9 36 326.91 1,768.76
10.9 48  257.97  2,382.56
10.9 60  216.93  3,015.80

It’s easy to see that the higher the interest rate or the longer the loan, the more you pay in interest. Perhaps most interesting is that as the loan repayment period lengthens, the monthly payment doesn’t change much, even with large increases in interest.

Let’s say that you apply for a manufacturer’s subsidized 0.9 percent loan but don’t qualify. The dealer then arranges a 10.9 percent loan for you. The resulting $46.42 per month jump in your payments – from $170.51 to $216.93 for a 60-month repayment period – may not seem important when all you can see is that lovely new car on the showroom floor. However, over five years, that difference in the interest rate will add $2,785, or nearly 4 cents per mile, to your cost of ownership.

To reduce expenses when borrowing, shop for the lowest interest rate you can find. Then put as much down as you can, either in cash, a trade-in vehicle or a combination of the two. Finally, do your best to keep the repayment period as short as possible, even though that means higher monthly payments.


You’ve just seen a commercial for a new vehicle that says you have a choice of 2.9 percent financing or a $2,500 rebate. Which is the better deal?

Generally, smaller loans and shorter repayment periods make cash rebates more attractive. Here are some examples for a $20,000 vehicle.

Let’s assume that if you take the rebate, you can get 7.9 percent financing from another source. We then assume that the rebate is applied to the purchase price.  In each case, you are better off taking the cash rebate.

Loan Amount Interest Rate
(Percent)
Repayment Period
(Years)
Monthly Payment Total of Payments
Low Rate $20,000 2.9 3 $580.74 $20,906.64
Cash Back  17,500 7.9 3  547.58  19,712.88
Low Rate  20,000 2.9 5  358.49  21,509.40
Cash Back  17,500 7.9 5  354.00  21,240.00
Low Rate  10,000 2.9 3  290.37  10,453.32
Cash Back   7,500 7.9 3  217.78   7,840.08
Low Rate  10,000 2.9 2  429.37  10,304.88
Cash Back   7,500 7.9 2  322.03   7,728.72

However, if the best interest rate you can find independently is 12.9 percent, the picture changes. If you borrow the full amount, you’re better off taking the subsidized interest rate. If you have $10,000 for a down payment, either cash or trade-in, however, the rebate is the better option—even with a 12.9 percent loan.

Loan Amount Interest Rate
(Percent)
Repayment Period
(Years)
Monthly Payment Total of Payments
Low Rate $20,000  2.9 3 $580.74 $20,906.64
Cash Back  17,500 12.9 3  588.80  21,196.80
Low Rate  20,000  2.9 5  358.49  21,509.40
Cash Back  17,500 12.9 5  397.28  23,836.68
Low Rate  10,000  2.9 3  290.37  10,453.32
Cash Back   7,500 12.9 3  252.34   9,084.24
Low Rate  10,000  2.9 2  429.37  10,304.88
Cash Back   7,500 12.9 2  356.21   8,549.04

In many areas, AAA offices have auto loan specialists who can help you determine which option to take. Often, you can get this information right over the phone.

The average used car costs $19,000—high enough to make most buyers look for alternatives to paying cash. Financing a used car is similar to financing a new one, with some significant exceptions:

Lenders consider used-car loans to be riskier, so they charge more to make them. Used-car interest rates often run 1 or 2 percentage points higher than a comparable new-car rate. Some banks charge even more, or couple the interest rate to the age of the car or loan amount. Rates typically increase with the age of the vehicle. Also, the lower the amount of the loan, the higher the interest rate may be. A higher rate helps defray a bank’s fixed costs in reviewing and approving a loan that’s so small it might not otherwise generate enough income to justify the effort.

You may have to shop around to find a loan that meets your needs. Some banks, however, will waive their rules for a good customer or under special circumstances.

The amount that a financial institution will loan often is governed by “blue book” values. The N.A.D.A. Official Used Car Guide® or Kelley Blue BookTM loan amounts, which in theory are what banks will loan to borrowers, are 10 percent lower than the trade-in or wholesale value of most vehicles. This margin protects the lender if it has to repossess the vehicle. You can research loan amounts at AAA.com.

Many banks will loan more than suggested by the car guides – which is good for borrowers with little cash to put down, since the loan amount can be 20 percent below the suggested retail price. On a more expensive late-model luxury car, the gulf between loan value and suggested retail price can be $4,000 or $5,000.

N.A.D.A. Official Used Car Guide® valuations are often high across the board, with dealers offering owners less than the guide’s trade-in amount for cars in good condition. They then sell these vehicles for less than the N.A.D.A. guide’s suggested retail price. This lowers the 20 percent gap between the suggested loan amount and the retail price.

However, many banks will offer 100 percent financing on used cars, so check with your financial institution. Some banks offer 100 percent financing for only the purchase price, but other will finance the entire transaction, including taxes and registration.

As with new car loans, a customer’s total cost for interest on a used car loan is lower when the loan amount and repayment period can be reduced. Shortening the repayment period may save a customer even more, if the lender attaches a lower interest rate to the transaction.

A lender will hold the title on a used car, just as it would on a new vehicle, until the loan is paid in full. Dealers are used to completing title applications that involve a lien and are generally trusted by banks and other lenders to handle the process properly. If they fail to do it right, the bank may attempt to recover any losses from the dealership.

On the other hand, lenders regard casual sales with more suspicion. Casual sales take place between individuals. Some banks won’t finance these transactions, but others will. If you think you’ll buy from a private party, be sure to mention this to your lender when asking about interest rates.