Auto loans can create a realistic pathway for you to purchase a car, one that you otherwise would not have been able to afford. However, there are some common missteps that people make when financing their vehicle purchases. Here are four mistakes to avoid making when taking out an auto loan.
Spending More Than You Can Afford
Buying a car requires a major outlay of cash. For those without sufficient savings to pay the entire sticker price, taking out an auto loan will allow you to drive off the lot in your own car.
However, just because you can secure financing for your desired vehicle, does not mean that you should automatically sign the papers. The first step when buying a car is to understand your finances to determine how much you can conceivably afford to spend.
The TipRanks’ auto loan calculator can help you to estimate your monthly payments, as well as the overall cost of the loan that you are considering. If you notice that the monthly cost of your loan will take up a sizeable chunk of your income, you should probably consider alternative financing arrangements or perhaps settling on a less expensive option. (It is also important to remember that there are additional costs incumbent in owning a car, such as insurance, gas, and maintenance.)
Taking Long-Term Auto Loans
The benefit of any loan is that it allows you to break down large payments into smaller, regular, and more manageable portions. In return, you pay the lender interest, making the overall cost of your purchase larger than if you had just paid cash upfront.
Though the average auto loan tenure is around six years, 7-year loans are also popular with many. These longer loans increase the total cost of the loan (by extending interest payments by months or even years). Moreover, because cars depreciate over time, this will also probably cause your asset to be underwater at some point during the life of the loan. (Underwater means that your asset is worth less than the amount of debt you still owe.)
For those who don’t plan to sell their car before their debt is repaid, this is not necessarily cause for concern. However, if you need to trade your car in or you wish to upgrade to another vehicle while still owing money, you could end up carrying over your debt. In practice, this means that you will be paying money for a car that does not even belong to you anymore.
Mistaking Luxury for Necessity
For many people, buying a car is a necessity. They need it to drive to work, ferry their family from place to place, and run everyday errands. At the very least, your car needs to be able to take you safely and reliably from Point A to Point B. However, most people’s desires go beyond these minimal considerations.
There are a seemingly limitless amount of accessories that you can purchase for your car. These include exhilarating electronics such as souped-up stereo systems, wireless communications, and dashboard cameras, as well as items of comfort such as a leather interior or seat warmers. These can no doubt make your car more enjoyable, but do not let these drive your decision.
First and foremost, make sure you understand the difference between you needs and priorities, and the “nice to haves.” For instance, a family of five will likely prioritize sufficient seating and storage space, while a single individual might prefer to focus on gas mileage.
Reaching for the most extravagant car that you can finance will backfire if you end up needing to service a debt you cannot comfortably afford. Understand what you need first, and splurge for luxuries only if the financing fits within your budget.
Limiting Yourself to One Financing Offer
Arriving at a dealership, taking a car for a test drive, getting a loan, and driving off the lot all in one afternoon is a wonderful image. Unfortunately, it also might leave you worse off in the long run.
While it is true that dealers make their money by selling cars, they also gain revenue by offering financing to their buyers. It is in their interest to provide you with a loan, and sometimes under more expensive terms that you could have otherwise obtained from another source.
Before you go to the dealership, try to get pre-approved for a loan from your bank or credit union. This has two main benefits. First, it will require you to undertake a comprehensive review of your finances, helping you develop a clear picture of how much you can afford to spend on a car. Secondly, getting pre-approved for a loan will also help you understand the basic contours of the interest rate you should expect to receive from the dealer.
Having this knowledge (and alternative financing in your pocket) can help you negotiate better terms from the dealership. Limiting yourself to one offer can lead you towards financing that will ultimately be more expensive.
Conclusion: Taking the Right Loan For You
An auto loan can help put you in the driver’s seat of a new car. Along with these advantages come a number of drawbacks that are important to understand, and to try avoiding.
If you decide to seek financing, make sure that you do not buy more car than you can afford, avoid long-term loans, do not get tempted by shiny accessories that are above your budget, and do not check out only one source of financing. Avoiding these mistakes–while using the TipRanks’ Auto Loan Calculator to anticipate your monthly costs–will help you drive off in style, without breaking the bank.
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