As you find the road forward on your new vehicle purchase, you’ll very likely discover two things
- Experts agree that the shorter a car loan the better due largely to savings on interest.
- Car buyers are getting longer and longer loan terms – with some taking out financing as long as 96 months, or eight years.
“For the past decade, the average vehicle loan term has slowly crept past five years, and is now about 70 months,” according to Edmunds.com. “In fact, over 73% of new vehicle loans in the first quarter of 2022 were longer than 60 months – an increase of about 33 percentage points since 2010.”
As new and used vehicle prices continue to increase, you might be wondering how this impacts you. If you’re in the market for a vehicle, keep in mind that there are a few things to consider when you’re shopping for your loan.
Time is money
A general rule of thumb when it comes to financing is, the longer you finance, the more interest you will have to pay. On a vehicle, most experts recommend a five-year loan or less if you can manage it. A longer term might get you a lower monthly payment. However, your cost to own the vehicle will likely go up because you’ll pay more interest since you’re financing over a longer period of time.
Is the honeymoon over?
We love our vehicles when they’re brand-new. But as they age, that love often fades and sometimes we become anxious to trade them in. Let’s say you take out a six-year loan on a three-year-old car. At the end of your loan term, you’ve got a nine-year-old vehicle you may be very eager to replace.
If the new-vehicle bug bites before your loan term is up, this could lead to negative equity on your next car loan also. Trading in your vehicle in when you’re already upside-down could mean that the difference between what you owe and what your vehicle is worth could get added to your new vehicle loan and then you’d be behind the 8-ball on your new vehicle.
Treading water or rising above it?
A new car typically depreciates about 25% in its first year. At the beginning of a loan, the buyer is usually “upside-down,” or “underwater,” meaning you owe more than the vehicle is worth. As mentioned previously, the longer the loan term, the more you’ll likely have to pay in finance charges. The situation is made worse if you weren’t in a position to make a large enough down payment. Or if you’ve rolled negative equity from your previous vehicle into this one.
If you’re able to pay off that longer term loan though, you’ll have a vehicle you don’t owe anything on. You could hang onto it and enjoy living without a payment, or you might want to trade it in for a new vehicle.
To trade or not to trade?
Resale value is something else to consider when you’re signing up for an extra-long auto loan. Generally, a five-year-old vehicle is more desirable and more valuable than a seven-year-old vehicle. But if you drive a lot for work, or you intend to drive the vehicle until the wheels fall off, this is less important. In general, you’ll want to consider your vehicle’s worth at the end of the loan so you know whether to trade it in, keep it or donate it.
So, what’s right for you? The answer largely depends on you. For most people, paying cash isn’t an option, so it’s a choice among loan terms.
You might consider getting pre-qualified with Drive®. Our Budget Customizer can help you find a vehicle you want on terms you choose. Since it’s customized for your situation, you’ll be able to better decide which loan term is right for you.
