The interest rate
Since interest is the biggest cost of a car loan, the interest rate is the first thing you should look at. It is the rate you’re charged per annum on the outstanding loan balance. In the example above, the interest rate is 5.00% – quite a low rate in today’s market. You should always ensure that you know what the interest rate is on your loan, and compare the interest rates offered by a host of different lenders before making a final decision. There are two kinds of car loan interest rates:
- Fixed rates: fixed interest rates remain the same for the duration of the fixed term, regardless of market movements or changes made by the lender.
- Variable rates: variable rate car loans mean that your interest rate can change. This can be both good and bad: good if your lender drops the rates on the loan product, but bad if they increase it.
Another rate you’ll see is the comparison rate – more on that in the fees section. Read more about how interest is calculated.
The loan period
The loan period or term can be as short as one year or as long as seven years, at least among reputable mainstream lenders. A longer term means you’ll be paying off the loan for longer, but will make smaller repayments. This will cost you more in interest, however. Compare car loans with the longest car loan!
The most common repayment frequency is monthly, but ask your lender if they allow fortnightly or weekly repayments. Making more frequent repayments can help you pay the loan off sooner and with less interest, especially if the value of these regular repayments are at least half (fortnightly) or a quarter (weekly) of your monthly repayments.
Our example above only included one car loan fee, but there are several others you could be charged that can significantly add to the cost of your loan. The fees to watch out for include:
- Upfront/establishment fee: the fee to take out the loan
- Ongoing fees: the maintenance fee charged on the loan
- Break fee: a penalty for when you pay off the loan in full before your term ends
- Discharge fee: a closing fee to cover closing the account
- Late payment fee: for when you fail to make a repayment on time
To help consumers get a better idea of a loan’s cost (interest rates and fees), lenders are legally obliged to display a comparison rate next to the advertised rates of their products. This comparison rate is calculated to include upfront and ongoing fees, so it will usually be higher than the advertised interest rate. A car loan that has a comparison rate that is much higher than its advertised interest rate is an indication that it has high fees relative to its interest rate.
Many car loan borrowers opt to have a balloon payment in the loan. This is an agreed upon lump sum (typically 30-50% of the borrowed sum) that is paid to the lender at the end of the loan term. Borrowers who want smaller regular repayments (monthly/fortnightly/weekly) can opt for a balloon, but over the life of the loan their total interest costs will be higher.
Obviously, you need to get the loan from somewhere, and much of the points above will influence on each of the above and how they might affect you. Certain lenders will offer products that offer much better value than others, so don’t just pick the one your neighbour Dave with the garage full of cars recommends.
Frequently asked questions
1. How do car loan pre-approvals work?
A pre-approved car loan can be beneficial as it lets you know what you can afford before you go out to buy a car. To get a pre-approved car loan:
- Compare car loan providers to make sure you’ve found the right one
- Check your credit rating before applying
- Gather all of the necessary documents (100 points of ID, income, proof of employment, assets and liabilities etc.)
- Contact your chosen lender and tell them you want to apply for pre-approval
2. Are auto loans unsecured?
Car loans can be both secured and unsecured, but the majority of them are secured, meaning the car is used as security against the loan. Should you fail the repay the loan, the car can be repossessed by the lender. Unsecured car loans (which are essentially personal loans) don't have the car as a security, but tend to come with higher rates to compensate for this.
3. Can I refinance a car loan?
Yes, you can refinance your current car loan to a different car loan with different terms, or a different lender with a lower interest rate. When refinancing a car loan, the money borrowed from the new loan will cover the balance of your previous car loan, allowing you to pay off that old car loan before moving onto the new one.
4. What are the common car loan terms?
There are lots of different car loan terms available, but most reputable lenders will allow terms between one and seven years, with 10 years usually the maximum. Your car loan term is how long it would take to pay off the car loan without any extra repayments.
5. How to get a low interest car loan?
There can be many ways to get a low-interest car loan, but one of the best ways could be to maintain a clean credit history. This tells lenders you're a trustworthy borrower, making them more likely to give you a good interest rate. Also, don't forget to shop around to see which lender's are offering the lowest rates. Secured car loans also tend to have a lower interest rate than unsecured loans.
6. What do I need to get a car loan?
Basic car loan requirements often include:
- Proof of a steady, reasonably high income
- Proof of identity: driver's license, Medicare card, passport etc.
- Proof of residence
- Proof of your ability to save money (try three-six months)
- Proof of your assets (like shares) and liabilities (like credit card debt)
Not having these on hand could reduce or eliminate your chances of having a loan application approved.
7. Am I eligible for a car loan?
Your eligibility for a car loan will depend on a variety of factors such as: the car model, whether the car is new or used, the lender and the loan you're applying for, your income, your credit rating and history, your assets and liabilities, and your history of savings. Having a bad credit rating doesn't disqualify you from getting car loans, but you might find it harder to get a good one.
If you have bad credit, you can boost your chances of being approved for a car loan by: being realistic in your expectations & picking a modest car, being honest in your application, save some money beforehand, obtain stable employment, and clean up existing debts. Also work towards improving your credit history beforehand by paying bills and credit card repayments on time.
9. What are the differences between secured & unsecured car loans?
A secured car loan is one where an asset (the car you’re buying) is used as collateral against the loan, and can be reclaimed by the lender if repayments aren't met. Unsecured car loans do not use your car as security. Secured car loans are generally less risky for lenders to provide than unsecured car loans, so they often have lower interest rates. Read more about secured vs unsecured car loans!
10. Is it better to borrow from the bank or from dealer?
Car loans and dealer finance can be acceptable methods of car financing, so long as you do your due diligence and shop around. Dealer finance can often have faster approval times and lower interest rates compared to car loans, but they can also be less flexible and more restrictive. If you're torn between the two, consider walking into a dealership with a pre-approved car loan under your belt and negotiating with the dealer to see if they can offer a better rate. For any type of car financing, be sure to take all the fees into account and look at what the total cost of the finance would be at the end of the term.