Paying off your car loan the right way
Choosing the right car and finding the right lender for your situation shouldn’t be the only things to consider when financing your next vehicle. While both are very important, you need to pay off your car loan in the smartest way possible, especially when your credit is far from perfect.
Don’t be a car payment buyer
Being an auto payment buyer means that you are more concerned with getting the best possible monthly payment for your loan. When you focus too much on your payment, it can be easy to take a narrow view and ignore other parts of your auto loan, like the overall cost.
You can certainly choose the vehicle that’s right for you, but don’t just focus on getting the lowest possible car payment. Be flexible and don’t focus on paying as little as possible each month while neglecting the rest of your loan terms.
When you have bad credit, focus too much on monthly payments this alone could lead to paying more for the vehicle than it is worth, and present you with other risks as well.
Have a short car loan term
If you plan to go for the longest possible loan term just to get your car paid off, it will literally cost you. Auto loans are generally simple interest loans, which means that you are charged interest daily on your loan balance.
Interest is the cost of borrowing money, and the faster you pay off your loan, the less you pay for the vehicle in general. So you should aim to owe as little time as possible!
To show how much a impact that a long-term loan can have on your portfolio, see these two examples:
- You finance a car for $ 15,000 for 84 months with an interest rate of 12%. Over the life of the loan, you will end up paying $ 7,242 in interest charges.
- You finance a car for $ 15,000 for 60 months with an interest rate of 12%. Over the life of the loan, you will end up paying $ 5,020 in interest charges.
The difference between these two examples is two things:
- Example 1: The monthly payment is $ 264.79 and the interest charges are over $ 7,200.
- Example 2: The monthly payment is $ 333.67 and the interest charges are over $ 5,000.
While extending your loan term to 84 months saves you $ 68.88 per month, it costs you over $ 2,200 more over the course of your loan. With the longer loan term, you have a vehicle payment for an additional two years.
Keep in mind that when you finance a car, other costs can add up as well. It is necessary that you have fully covered auto insurance, in addition to taking into account maintenance, which can become more expensive as vehicles age.
Put money on the car!
If you are on a tight budget and want a more expensive car with a lower monthly payment, put money on the vehicle. A down payment lowers your monthly car payment, lowers your interest costs (since you’re financing less), and you’re less likely to pay more for the vehicle than it’s worth.
For borrowers with bad credit, paying a lot of interest is often a common concern. This is because borrowers whose credit is not perfect are generally not eligible for lower interest rates. It also plays a role in negative equity risk, which occurs when you owe more on the car than it is worth.
If you choose a long term loan with a high interest rate, it may take some time to pay off the vehicle as the interest charges continue to accumulate. This can cause the value of the car to drop faster than you can pay it off. Negative equity is common, but for a borrower with bad credit it can mean paying tons of money above the value of the vehicle if it takes too long to pay it off.
Deposit as much as you can on your next car loan. You can use cash or trade in your old or current car to reduce the amount you need to finance. In addition, down payments are usually required for borrowers with bad credit. The sooner you start saving, the more you can save later on your next vehicle.
Know your car loan budget
You should do everything you can to negotiate the lowest monthly payment possible, but that shouldn’t be the only thing you focus on. Knowing your monthly budget is always important to the overall car buying process. But don’t fall into the trap of the payment buyer.
In fact, dealerships may first ask you, “What type of monthly payment are you looking for?” This means that you get to look at vehicles and then the CFO can modify a car loan that allows you to get the monthly payment you want, but this is usually done by extending the term of your loan.
Be a smart buyer and walk into a lender’s office or dealership knowing how much you can afford to buy a car. This means having a fixed cap on the sale price of the vehicle you’re willing to pay, with a shorter loan term, so you can comfortably pay your payment each month.
You can start budgeting right from home by calculating your debt-to-income ratio (DTI). This calculation is used by auto lenders and can be useful in determining how much disposable income you have left after all of your other bills are paid.
The calculation of the DTI ratio is simple. Add up all of your monthly recurring expenses, including an estimated car loan and car insurance payment, then divide that total by your gross monthly income. Here is an example :
- $ 1,200 (monthly expenses + car expenses) divided by $ 2,800 (gross monthly income) = 0.428
- 42.8% DTI ratio.
In this example, 42.8% of your monthly pre-tax income is used to pay recurring bills, including a car payment and an insurance payment. Typically, auto lenders require borrowers with DTI ratios below 45% to 50%. Once you’ve done the math yourself, you can then start playing with the monthly payment amounts you can afford and keep your DTI ratio low to avoid stretching too much.
You can use our auto loan calculator to estimate how much of a down payment you need to get the monthly payment for a certain vehicle down to what you want. If your credit score is lower, you can also research the average interest rate assigned to other people with similar credit scores for auto loans, so that you can plan for that as well.
Ready to switch to car shopping?
A prepared borrower is a smart borrower – it’s half the battle of getting ready for your next car loan. However, when you have credit problems, it can be difficult to find a lender who can handle unique credit situations. We want to help with this!
Here has Auto Express Credit, we have a network of resellers that stretches across the country. We know which dealerships are registered with bad credit auto lenders, and we can search for one in your area at no cost. Start now by completing our auto loan application form.