Did you buy a car or truck in the past year? Twenty-four percent of adults surveyed did, according to the latest Report on the Economic Well-Being of U.S. Households. We tend to buy a lot of cars over our lifetimes. How we go about purchasing these vehicles matter. Car loans are the third largest category of household debts for American consumers, behind mortgages and student loans, and are often a large debt for people.
The good news is that people tend to shop around and compare car prices before they make a purchase. Seventy percent of all consumers report they compare prices from different sellers. The bad news is that people aren't as likely to compare loan terms. Only a little more than half of all buyers compared interest rates or other loan terms from different sellers.
The Consumer Federal Protection Bureau (CFPB) researched how and why consumers shop for vehicles the way they do and it seems that for many the financing piece is confusing and stressful. This is no surprise as usually we are asked to decide financing terms after many other decisions about the car purchase. By this time, I know I'm usually tired, hungry and ready to be done with the whole thing!
To save money, the CFPB recommends a couple of key ideas:
First, before going to a car dealership, shop for and compare different loan options. You may even want to take a pre-approved loan from a credit union or bank with you to the dealer. You can then compare this loan offer with the dealer's loan offer. Often different lenders will offer you different loan rates and terms.
Also, contrary to popular opinion, if you shop for a loan in a relatively short time period, these credit checks will only count as one inquiry on your credit score. (This short time period ranges from 14 to 45 days depending on the credit scoring model.)
When comparing loan terms, the easy piece of information to focus on is the car loan's monthly payment. However, this is not the whole story. We also need to compare the total cost of the loan. The total cost of the loan includes the principle (loan amount) plus interest and fees charged.
Remember, if you lower the monthly payments by taking more years to pay off the loan, the total loan cost will go up because you will pay more interest.
Almost a third of car loans are now for 61 months or longer. Longer loans cost more at the same interest rate – and it can make a large difference. For example, the total cost of a $30,000 loan (3.75% interest rate, IL sales tax included) will cost $2,540 more for a seven-year loan versus a three-year loan. The difference is the amount of interest paid. You can run your own comparison calculations using this handy calculator.
One more important step, be sure you understand all the paperwork you sign and that all promises are in writing. It's okay to ask questions if you aren't sure you understand something.