The New Average Car Loan Terms
Getting a loan to buy a new car is a smart option if you need a vehicle for personal or business reasons but do not have enough cash or do not want to spend such a huge amount all at once.
When it comes to getting the best deal on your auto loan, one of the important factors to consider is the term or the length of the repayment period.
The Car Loan Length
The growing popularity of utes and SUVs, which are generally more expensive than other types of family cars, along with the gradual rise in the prices of new cars have led many people to take out car loans.
Meanwhile, car dealerships attract and sell expensive vehicles by offering financing with low monthly payments. What buyers like you sometimes miss out is the length of the repayment period—To make the expensive car seem affordable, the payment is distributed into many, many months under a long-term car loan agreement.
While a long-term car loan is favourable for some borrowers, it is often a least cost-efficient option. A car’s value depreciates over time. If the loan repayment takes long years to complete, you would often end up paying more in interest until such time that you become underwater on the loan. This means that you owe more on the car than it is worth.
Despite the disadvantage, more and more borrowers are taking out car financing with longer terms.
The New Average
Car loan terms usually last from two to seven years, with longer-terms now a rising trend. While the average terms in the past are three and five years, the median car loan length now exceeds five years.
According to CreditKarma, the average car loan term was more than five years (around 69 months for new cars and 65 months for used vehicles) in the first quarter of 2019.
Borrowers with excellent credit scores usually take out a car loan with around 63 months payment period while those with bad credit prefer a term around 72 months or six years.
So, Is a Long-Term Car Loan Good or Bad?
- Smaller monthly payments
- May free up cash to pay off more expensive debt
A longer loan term can mean lower monthly payments. For example, say you’re financing a $30,000 new-car purchase over five years and you’re doing so at a 3% APR with no down payment in a state with no sales tax. Your monthly payments would be $539 each. If you were to opt for a seven-year loan, all other loan terms being the same, you’d make monthly payments of $396 — a difference of $143 per month.
With a longer-term loan, you’re making more payments. For this example, you’d make 84 monthly payments on the seven-year loan versus the 60 payments with the five-year term. You’ll also pay more in interest overall with the longer loan.
Let’s say you’re deciding between a 60-month car loan and an 84-month car loan. The smaller monthly payment that comes with the longer loan term may free up resources to pay down other high-interest debt more quickly. But this only makes sense if the interest rate on your debt is significantly higher than your car loan’s interest rate.
Say you’re buying that new vehicle at 3% APR, and you also happen to have a credit card balance of $10,000 with a 20% APR. If you choose the seven-year loan term on the car and apply the extra $143 that you’d have available each month to your credit card debt, you could save on interest overall. Because even though you’d end up paying more interest on the longer-term loan than on the shorter, you’d be able to pay off your higher-interest credit card debt in less time, potentially saving you more interest in the end.
- Higher interest costs
- Getting underwater on the loan
- Will likely shoulder the repairs while still repaying the loan
Though many people seem to prefer longer loan terms, there are some good reasons to consider bucking this trend.
A 72- or 84-month car loan will likely leave you with a larger total interest payment than a loan term of 60 months or less. Take the $30,000, 3% APR car loan (with no down payment and no sales tax): You’d pay $2,344 in interest over a 60-month term. But with an 84-month loan at the same rate, you’d pay $3,301 in interest.
A longer loan term may also come with a higher interest rate.
Moreover, if your loan term is longer than 60 months, you could be making car payments long after your warranty has expired.
Many new cars come with basic warranties that last four or five years and powertrain warranties that span five or six years. A car’s repair costs tend to increase with age, and if your warranty expires before the loan is paid off, you may face repair bills while still making monthly car payments.
A handful of automakers do offer slightly longer warranties. Kia, Mitsubishi, Hyundai and Genesis offer 10-year/100,000-mile powertrain coverage. And many Volkswagen vehicles come with a six-year/72,000-mile comprehensive warranty.
Long-Term Car Loan Alternatives
Before getting a 72- or 84-month car loan, look into less-costly alternatives like leasing, buying an affordable used car, or delaying your purchase until you have money saved for a larger down payment. Going this route may help lower your monthly payment without the risks that can come with longer loan terms.
Also, while it's important to know what you can afford in terms of monthly car payments, that shouldn't be your only measurement of a good car loan. Take a look at all the numbers in the sales contract so that you are fully aware of what you are paying for the car.