If you’re planning on buying a new set of shiny wheels but not sure how you’ll pay for it, we know that trying to get your head around finances and car loans can be daunting. Rapid Loans exists to make accessing car finance simple and speedy!
After your home, your car may be one of the most expensive purchases you make in your lifetime. So, before you sign anything, it’s important to know how interest rates work when it comes to car loans.
Understanding Your Car Loan Interest Rate
Your car loan interest rate plays a big role in determining how much you will end up paying in total for your vehicle, so it’s in your best interest to know how it works so you can make an informed decision.
Essentially, an interest rate is what a lender charges you for a loan to buy a car. A percentage of the loan amount is then paid on the amount that you borrow, which is not necessarily the same as the total purchase price.
In your search for a car loan, you’ll come across two types of interest rates:
Fixed Rate
This is locked in at the time of purchase and remains the same for the duration of the term (the period over which you pay the money and interest back). This is the most common type of loan for vehicles and gives you some security as it doesn’t fluctuate so you’ll still be paying the same amount of interest that you signed up for.
Variable Rate
If interest rates go up or down, the rate that you’ll pay will change. The bonus of a variable rate may mean that you’ll be able to enjoy more flexibility when it comes to being able to make additional repayments.
What also makes a good interest rate depends on a number of factors like the lender you choose, your financial status, the age of the car you’re looking at buying and your credit history. It’s also important to remember that interest rate is just one key component of a car loan and there are other factors to think about, such as:
- Upfront and ongoing fees
- The amount you’re borrowing
- The deposit on the car
- The length of the car loan
Factors That Affect Your Interest Rate
Let’s dive into the factors that may affect the interest rate you can get on your car loan.
Credit Score
Your credit score is a measure of your creditworthiness which is typically used to determine your interest rate. The higher your score, the better the interest rate you’re more likely to be offered.
However, there’s often a misconception that once your credit history has defaulted, getting a personal or car loan or used car loan approved is impossible. If your score is low or even average, it might be time to take the necessary steps to improve it. Improving your credit score by even a small amount could mean you can get a better interest rate on your car loan.
Find out more about applying for a car loan with bad credit with Rapid Loans.
Deposit
With some lenders, the more you put down, the lower the rate you may get because there is less risk for the lender. On the flip side, a smaller deposit may incur a higher interest rate due to the risk of default on a larger loan amount.
Secured vs. Unsecured Cars
Secured car loans use an asset (usually the vehicle you’re buying) as security against the loan. This means that if you default on the loan, the lender may repossess your car to use as collateral.
With unsecured car loans, the lender doesn’t have collateral to fall back on so they tend to offer higher interest rates as they’re under more risk if you miss your repayments.
New or Used Cars
The age of the car you’re buying can also impact your interest rate as newer cars may attract a higher product tier with some lenders, meaning you could be offered lower interest rates, while older cars may come with higher rates. The loan amount for a new car is also usually higher, which may impact the loan product you are offered.
Loan Term
The shorter the loan term, the less interest you will likely have to pay over the life of the loan. Choosing a shorter loan term that you can comfortably afford could save you hundreds or even thousands of dollars in interest payments.
Alternatively, a longer loan term means you’ll pay less in principal each month because the total amount you borrowed is broken down over more months. This can be tempting as your repayments will be lower but may mean you’re charged more in interest over the life of the loan.
Calculating Car Loan Interest
It’s important to remember that your car loan repayments go toward paying down the amount you borrowed, also known as the finance principal, as well as the interest charged by the lender.
There are formulas available for calculating car loan interest, but it may not be the simplest option. Remember to review your contract carefully before you sign with any lender, it will set out your interest and repayments.
You could also use a car loan calculator to get an idea of your repayments. Let’s be honest, who has time for all that maths anyway?