How does car financing work?

How does car financing work?

More often than not, if you are buying a car, you will be financing it. This means that you will be working with a lending institution to take out a loan on your car. However, if you are new to this, you may have a very important question: How does car financing work? Fortunately for

More often than not, if you are buying a car, you will be financing it. This means that you will be working with a lending institution to take out a loan on your car. However, if you are new to this, you may have a very important question: How does car financing work?

Fortunately for you, the answer is that it is not very different than financing any other major purchase. Financing a car means that you are taking a loan out on its total amount. Once you have the value, you apply for a loan. There are three factors that go into the overall amount you will repay on a car financing deal:

  • The total value of the car
  • The interest rate
  • The amount of time you want to pay the car back in

Remember, interest rates will typically increase as you select a longer amount of time. So, while taking out a five-year loan will lead to lower monthly payments than a three year one, it will mean that you pay more money back over the length of the loan. This is because you will be paying more interest for a longer period of time, and the difference can add thousands to your overall repayment. 

It is also worth remembering that financing rates can alter your overall purchasing decision. Used cars will usually have higher interest rates than new ones. This is for a few reasons but ultimately comes down to risk for the lending institutions and better terms that are typically available on newer cars. Given higher interest rates, it may be more worth it for you to finance a new car, rather than a used one. 

Indeed, in total, financing a car is more expensive than paying in cash, unless you can get a loan with 0% interest. This is not completely unheard of, and if you have good credit and a long-standing relationship with a financial institution, it may be possible. There are also times that car companies offer 0% financing over a certain period of time. From an overall financial perspective, this can save you money, as you can take the money that you would have used in purchasing a car and invest it, save it elsewhere, or put it towards repaying other debt. 

Many car dealerships will offer you financing via their own banks or lending institutions, and these will often have great deals. However, that doesn’t mean that you shouldn’t shop around. Other banks have highly competitive loan rates, and you should always check with your own bank or another financial institution you do business with to see what sort of rate they can give you. 

Daniel Hughes
Daniel Hughes
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