If you perform a simple internet search for car loans, your screen will be flooded with offers, advice, caveats and so forth. Many of these offers are presented in technical terms and acronyms that are unfamiliar to some people. Without a proper understanding of how each type of loan works and how much you actually have to pay when you draw the bottom line, you could get trapped into a loan you barely afford.
Signing up for car loans that exceed your comfortable repayment abilities can lead to a lot of negative consequences: lagging behind with payments, getting your car repossessed and having a low credit score (loan rate calculator).
What Is the Right Type of Loan for You?
Loans must not be judged per se, but always in relation to what you want to buy with the money. Mortgage loans, for instance, have an intrinsic return on investment (ROI), because real estate property maintains its value over time.
On the other hand, car loans have the lowest ROI, because cars lose value over time very quickly. There are two factors which determine a good loan for buying a car: the annual percentage rate (APR) and the duration of the loan.
1. Annual Percentage Rate
APR is determined by various aspects: the type of lender, your credit score, the duration of the loan and the object to purchase. Banks do not consider cars as valuable assets and know that recovering the loan is difficult if you cannot repay it, therefore, they will not be very flexible in negotiating a low APR.
Private lenders usually have high to very high APR on their loans, but they have to cover for major risk – they usually are the only ones to grant loans to people with bad credit, no credit history or low credit score.
2. Loan Duration
Banks have all the interest to get as much revenue from a loan as possible, therefore they may propose a longer term loan. It means that you pay a higher amount in interest rate and other charges over time. If your credit score and your finances allow it, you can negotiate a shorter term for your loan, but it means larger monthly payments.
Private lenders offer their loans as a fixed monthly rate for a fixed number of months. This method is preferred because the annual percentage rate is not immediately apparent; otherwise it would deter some people from seeking the loan. As the last possible option, there is very little you can do to negotiate this type of car loans, only to refinance it from another source as soon as your credit score allows it.