Edmunds: A longer loan for your car? Bad idea

Apr 27, 2022, 3:25 AM | Updated: 3:39 am
FILE - A sold tag hangs from the inside rear-view mirror of a 2022 4Runner sports-utility vehicle a...

FILE - A sold tag hangs from the inside rear-view mirror of a 2022 4Runner sports-utility vehicle as it sits in an empty storage lot at a Toyota dealership Sunday, Feb. 27, 2022, in Englewood, Colo. (AP Photo/David Zalubowski, File)

(AP Photo/David Zalubowski, File)

The traditional “20/4/10 rule” of car buying states that you should make a 20% down payment, have a loan no longer than four years, and a total monthly car budget that does not exceed 10% of your take-home pay. But the reality is only 6% of new car shoppers actually followed that advice in March, according to Edmunds sales data. The average loan term for a new or used car has steadily increased over the last decade and is now about 70 months.

The longer loan terms reflect not only a trend of people seeking a way to offset paying for costlier trucks and SUVs but also inflated prices due to a nationwide vehicle shortage. At today’s car prices, the old rule of thumb is not only being ignored but is also unattainable for most Americans.

“Shrunken inventory continues to wreak havoc on both the new and used vehicle markets,” said Jessica Caldwell, Edmunds’ executive director of insights. “Shoppers who can actually get their hands on a vehicle are committing to never-before-seen average payments and loan terms.”

In March, 73.4% of financed loans were above 60 months. The most common term was 72 months, followed closely by an 84-month loan. The trend is worse for used car loans. Just over 80% of used car loan terms were over 60 months, with 72 months the most common term.

A longer loan has the carrot on the stick of a more palatable monthly payment, but it comes with a number of drawbacks.

HIGHER INTEREST CHARGES

The longer the term, the more interest you will pay on the loan, both in terms of the rate itself and the finance charges over time. Let’s take a look at how the numbers change on two loans that are on opposite ends of the financial spectrum.

The average loan amount for a new car in the first quarter of 2022 was $39,340. If we went with the recommended 48-month term, it would have an average interest rate of 1.9% in March 2022. The finance charges over the life of the loan would be $1,545, giving you a staggering monthly payment of $852. It’s easy to see why someone would opt for a longer loan.

Contrast that with an 84-month auto loan. The monthly payment would drop to $563 with a 5.4% interest rate. It seems like a massive improvement over 48 months — until you see the finance charges: $7,990 over the life of the loan. That’s $6,445 more over the 48-month loan and yet 34% of new-car buyers are willing, or forced, to make that compromise.

Now let’s say you purchased a lightly used car with a 72-month loan term at the average financed price of $30,830. Your monthly payment would be $559. It seems somewhat reasonable from a monthly payment perspective. However, interest rates are much higher for used cars, and a rate of 9.2% is fairly common. You’d be paying $9,403 in finance charges.

NEGATIVE EQUITY

Many auto loans start in a position of negative equity, meaning you owe more on the loan than the vehicle is worth due to finance charges and the initial depreciation hit of about 20%-25%. The time it takes you to build equity in the car will vary based on the vehicle’s resale value, the loan term and down payment. With a 48-month loan, you’ll break even at about 25 months, while that would take you 40 months on an 84-month loan.

Having negative equity can limit your options if you’re in a money bind or if you get tired of your car before it’s paid off. A buyer will only pay you what the car is worth, not what you still owe on it, so you’ll be stuck paying the balance of the loan.

TIPS TO AVOID A LONG CAR LOAN

Shop for a less expensive vehicle. It may not be what you want to hear, but if the payments are making you wince, there’s a good chance you’re shopping above your budget. Ask yourself: Do you really need a midsize SUV when a compact one will easily handle most tasks?

Consider buying an older used car. Look for something about 6 to 7 years old. Yes, the interest rates are higher for used cars, but since these vehicles cost significantly less, there’s less to finance and the payments will be lower. This approach should help make a lower-term loan more attainable.

EDMUNDS SAYS: Since 48-month loans are impractical for most people, we recommend a 60-month auto loan if you can manage it. It is a more realistic sweet spot that combines a lower interest rate with a manageable monthly payment, provided you make a solid down payment.

_______

This story was provided to The Associated Press by the automotive website Edmunds. Ronald Montoya is a senior consumer advice editor at Edmunds. Ronald is on Twitter.

Related links:

Car Buying Tips for 2022; Edmunds Car News.

Copyright © The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

AP

Associated Press

US Senate sergeant-at-arms during Capitol riot dies at 71

WASHINGTON (AP) — Michael Stenger, who served as the U.S. Senate’s sergeant-at-arms and resigned after the Jan. 6 insurrection at the Capitol, has died. He was 71. Stenger died Monday of natural causes, according to two people familiar with the matter. One of the people said he had been diagnosed with cancer and had been […]
16 hours ago
Associated Press

FTC sues Walmart for scammers’ use of money transfer unit

NEW YORK (AP) — The Federal Trade Commission said Tuesday that it has sued Walmart for allegedly allowing its money transfer services to be used by scam artists who stole “hundreds of millions of dollars” from customers. In its lawsuit, the agency alleged that for years, Walmart failed to properly secure the money transfer services […]
16 hours ago
A trucker partially blocks the southern entrance to Buenos Aires, Argentina, Tuesday, June 28, 2022...
Associated Press

Higher fuel prices spark social unrest in South America

BUENOS AIRES, Argentina (AP) — Police in Argentina blocked a major entry point to the capital’s center on Tuesday to keep a group of truckers from joining a downtown protest, adding traffic snarls in Buenos Aires to a series of disruptions caused by anger over rising prices and shortages of fuel across South America, largely […]
16 hours ago
Associated Press

Building owner charged in blaze that killed firefighter

PHILADELPHIA (AP) — The owner of a Philadelphia building that caught fire and collapsed this month, killing a city firefighter and injuring five other people, has been charged with setting the blaze, authorities announced Tuesday. Al-Ashraf Khalil, 28, also lied to authorities probing the June 18 fire and later flew from the United States to […]
16 hours ago
Associated Press

Salmon drops out of GOP primary race for Arizona governor

PHOENIX (AP) — Former U.S. Rep. Matt Salmon dropped out of the race for the Republican nomination for Arizona governor Tuesday, a move that comes a week before early ballots are mailed out and leaves just two top contenders in the GOP contest. Salmon was widely seen as trailing former TV news anchor Kari Lake […]
16 hours ago
Associated Press

Report: Lack of water access costs U.S. $8.6B each year

CHARLESTON, W.Va. (AP) — At least 2 million Americans don’t have running water or a working toilet at home, a crisis that costs the U.S. economy $8.58 billion each year, according to a report released Tuesday by nonprofit DigDeep. These water access issues disproportionately impact Indigenous tribes, people of color, immigrants, low-income people and those […]
16 hours ago

Sponsored Articles

(Courtesy Condor)...
Condor Airlines

Condor Airlines shows passion for destinations from Sky Harbor with new-look aircraft

Condor Airlines brings passion to each flight and connects people to their dream destinations throughout the world.
...
CANVAS ANNUITY

Best retirement savings rates hit 4.30%

Maximize your retirement savings with guaranteed fixed rates up to 4.30%. Did you know there is a financial product that can give you great interest rates as you build your retirement savings and provide you with a paycheck for life once you retire? It might sound too good to be true but it is not; this product is called an annuity.
...
Carla Berg, MHS, Deputy Director, Public Health Services, Arizona Department of Health Services

ADHS mobile program brings COVID-19 vaccines and boosters to Arizonans

The Arizona Department of Health Services and partner agencies are providing even more widespread availability by making COVID-19 vaccines available in neighborhoods through trusted community partners.
Edmunds: A longer loan for your car? Bad idea