How to Estimate Interest of an Auto Loan

Sometimes what seems like a good deal really is not. For example, you may have negotiated a good price for a new vehicle, but due to financing charges and interest, the true cost might be much higher than you thought. According to the Center for Responsible Lending, consumers will pay more than $25 billion in interest rate markups during the lives of their loans. Knowing how to estimate the interest that you will pay on your auto loan can prevent sticker shock.

Instructions

1

Determine the amount of money that you need to finance. This should be the total price of the auto, including taxes, less any down payment that you plan to pay.

2

Estimate your interest rate. To get an idea about what the interest rate might be, call your bank or search the Internet for car loans to determine a general range of what your interest rate might be. Remember that the higher your credit score, the lower your interest rate should be.

3

Decide on how long you want to pay on the loan. Typically, car loans are two to six years in length. Convert the amount of years into the number of payments. For example, if you have a three-year loan with monthly payments, convert that to 36.

4

Calculate your estimated payment. Assign the following variables: P = principal to be financed; r = interest rate; and n = total number of payments. Your payment is found using this formula: payment = P(r/12)/(1-(1+r/12)^n. 12 is the amount of monthly payments to be made in a year. For example, if you finance $15,000 with a three-year loan at 7 percent, your payment would be 15,000 (0.07/12)/1-(1+.07/12)^36 or $463.16.

5

Multiply your payment amount by the number of payment periods, then subtract the amount borrowed to calculate the entire amount of interest you will pay. Continuing with the example, multiply $463.16 by 36, then subtract $15,000 to find the total interest paid. That total is $1,673.76. To estimate the monthly interest paid, divide the principal borrowed by the amount of payments, then subtract that number from your monthly payment. In the example, divide $15,000 by 36 to get $416.67. Now subtract $416.67 from $463.16 ($46.49) to determine the monthly interest paid.

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How Are Interest Rates on Cars Determined?

When shopping for a car, you'll notice that auto loan interest rates tend to fluctuate dramatically. One financial institution may give you a 4 percent interest rate while another may give you a 5.4 percent rate. While the rates may appear to change with the wind, multiple factors determine your loan rate, including the amount the car costs, your credit history and the state of the economy.

Credit History

Credit history can single-handedly decrease or increase your potential auto loan interest rates. When you submit a credit application, most lenders immediately comb through your past credit history. The main points of interest include your credit score and current and past credit accounts. Generally, a credit score below 620 results in increased rates as that score range represents high risk. When looking at your credit accounts, lenders check if you're in good standing or if you've been hit with 30-, 60-, or 90-day late payments. If you don't have late payments and you have a high credit score, you will always qualify for lower interest rates than if you had a low credit score or made late payments.

How Much You Borrow

A loan of $5,000 will usually carry lower interest rates than a loan of $20,000, credit history notwithstanding. Larger loans carry more risk. A lender's primary goal when granting a loan is to get that money back. When deciding to deny or accept a loan application, lenders look at how much a person is borrowing and weigh that against the possibility of not seeing the money returned. A loan of $5,000 doesn't carry near the risk that a $20,000 loan does.

The Economy

The economy can increase or decrease interest rates. When banks get spooked by a rough patch in the economy, credit availability can tighten, which normally results in higher interest rates. Conversely, when the economy booms, interest rates typically fall. For example, when the economy sputtered in 2008, the average interest rate for a 36-month used auto loan was 7.75 percent, according to Bankrate.com. As of June 2011, the average interest rate for a 36-month used auto loan is 4.72 percent, according to Bankrate.com.

Where You Apply for a Loan

By applying for a loan outside of your bank or credit union, you may incur higher interest rates. If you have previously taken out and paid for loans or lines of credit from your financial institution, you have shown you're responsible and you're not a high risk borrower. Banks and credit unions that have never dealt with you before will see your past loans and lines of credit, but they might not be willing to give you as low of an interest rate as the financial institution you belong to.

Down Payment

By putting more money down, you show the lender that you're willing to use a portion of your own funds to pay for the car upfront. The amount of your down payment doesn't affect interest rates to the extent that other factors do.

Used Cars

If you're shopping for a used car, you'll likely find an interest rate comparable to that of a new car loan. When borrowers default on their loan, the lender attempts to get the money back by selling the car. Used cars sell for a lower percentage of the approved loan than new cars do, so the lender takes on a higher risk by approving a used car loan.

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Meaning of a Clean Title When Buying a Car

If you're purchasing a used vehicle, the phrase "clean title" may have come up in researching the buying process. A clean title is used to help you determine if a car is worth the asking price and if it's being sold legally, and it's also used by lenders to decide whether or not to grant you financing.

Definition

A clean title is one that has no major recorded damage; it's not a salvage title. The phrase "clean title" is often used as a synonym for "clear title" but they mean two different things. Clear title refers to a car that is free of liens. These two phrases are often used interchangeably, and both are important for buyers in making a decision to purchase a car.

How It's Used

A clean title or clear title differentiates a car from a salvage title. When purchasing a car, a buyer may decide not to purchase a car if it has liens against it or if it has suffered significant damage in the past. Also, a buyer often won't receive financing if the car doesn't have a clean and clear title.

Salvage Title

A car gets a salvage title when it sustains damage that would cost more than the car is worth to repair. Usually the damage must be 75 percent of the cost of the car prior to the damage, but the percentage varies by state. In Arizona, Florida, Georgia, Illinois, Maryland, Minnesota, New Jersey, New Mexico, New York, Oklahoma and Oregon, stolen vehicles are identified as salvage titles.

Warnings

Sometimes, people take a car with a salvage title to another state, where it may be given a clean title. To avoid getting stuck with a car that has had its title "washed," the Edmunds automotive website recommends ordering a vehicle history report, which spans states and looks into the vehicle's entire history.

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Auto Financing Problems

Numerous auto financing problems exist, although many can be overcome. Depending on your credit history, money down or even the vehicle you choose, you may find difficulties with a loan approval. Learn about different auto financing problems and what you can do to solve them.

Vehicle Value

Banks lend according to loan-to-value ratios, which is the amount you ask to borrow compared to the vehicle's bank-determined retail value. Even with excellent credit, you cannot borrow $20,000 for a vehicle worth $10,000. Loan-to-value ratios become an issue when the car you're trying to buy costs more than it should. Banks also make determinations about the loan amount compared with the vehicle value according to credit. Good to excellent credit consumers may be able to borrow up to 120 percent of a vehicle's value, while poor credit consumers can see as low as a 60 percent lending value. A good cosigner or money down will help.

Debt-to-Income Ratio

Even with excellent credit, you can still face vehicle financing problems because of debt-to-income ratios. While the bank does consider your credit score, it also views your credit report to determine the amount of debt you pay out each month, including loan balances and payments, mortgage payments, credit cards and whether or not you are the primary or secondary borrower (if you're a cosigner or someone cosigned for you). Your income is looked at, as well. With this issue, a cosigner can help you to establish a loan because of additional income, or you can find a lower priced car.

Credit History

Other issues may include lack of credit history, poor job history or first job, unstable home address (you move often) or self-employment. Some banks offer a "first time buyer" loan, which offers a higher interest rate than traditional loans, but can help to establish credit. Borrowers without credit history may also face a lesser loan-to-value ratio, meaning money down is necessary to obtain a loan. Otherwise, a cosigner is strongly recommended for those who have not yet established themselves. For business owners, prepare to produce years of tax information to prove your income.

Warning

No matter which vehicle financing problems you face, consider your budget before making a desperate or pressured decision. A cosigner is a safe bet for problem borrowers, but finding one can prove difficult, as the cosigner must have good to excellent credit, an income and agree to become liable for your vehicle loan should you default. It is not advisable to borrow money for a required down payment or to accept a higher interest rate and car payment than you can afford, even if you cannot obtain approval otherwise.

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Auto Loan Requirements

While some people may be able to pay for their vehicles with cash without financing an auto loan, it is far more common to make such a large purchase based on credit with monthly payments. As with any loan, the lender will need to decide whether they will give you the loan based on whether they think you will pay it back. This decision is fueled by factors such as the car itself, its value and age, and your personal financial history.

Down Payment

Some lenders, either banks or car dealerships with their own financing programs, will require that you make a down payment on the vehicle you intend to finance. This shows the lender that you are taking a financial interest in the vehicle from the beginning of the transaction, and that you are less likely to default on the loan. A down payment also ensures that if you were to not make your loan payments, the value of the car is more than the value of the loan and the lender would be able to recoup their interest in the vehicle fully. Down payment is usually required to be a certain percentage of the value of the car, and requirements may vary, so it is best to contact the lender you wish to use to find out their specifications. If down payment is not a requirement you would like to comply with, you may consider financing the car with a home equity loan, which automotive website CarClicks.com states is an increasingly popular option.

Car Value

Most creditors who do auto loans on a regular basis will have a system for evaluating the value of the vehicle they are about to finance. They will often ask you to tell them all of the specifics on the car; stereo system, power options, extras, upholstery type, etc. This is so that they can get a more accurate estimate on the value of the car. The value likely will be required to be either more than or equal to the amount you are looking to obtain from the loan. This means that you will start out with equity in the car, and can either be accomplished by obtaining a good deal on a highly valued car or by placing a down payment on the vehicle.

Age of Vehicle

While most car dealerships will extend financing for any car on their lot, some banks and other lenders will have restrictions on exactly how old the car can be. For instance, U.S. Bank has a requirement that vehicles it finances not be more than seven years old. While this is not a consideration if you are financing a current model vehicle, if you are shopping for a used car, it may be helpful to ask your intended creditor whether it has a maximum age for cars they are willing to finance. If there is a requirement in place, you can either adjust the age of the cars you are looking at to compensate or find a lender with a looser restriction.

Income

In terms of your personal financial situation, one of the most important factors evaluated by your lender is likely to be your monthly or annual income. They will want your income to demonstrate that you have the ongoing ability to make payments on the loan, and will want you to provide documentation that supports your income. Acceptable proof of your income usually consists of copies of your pay stubs, tax returns or W2s.

Debt to Income Ratio

Lenders will also evaluate the ratio between your monthly income and your monthly debt obligations to determine whether or not there is room in your income to support an additional payment. The creditor will ask you to tell them the amount of any monthly payments you have, such as your mortgage, credit card payments and current car payments. This amount will then be divided by the amount of your gross monthly income, and if the result is under a certain threshold --- determined by the financier --- you are considered credit worthy.

Credit

The final aspect of the lender's evaluation will be your credit report, which the lender will retrieve from one of the three credit bureaus. This report will contain a credit score and a credit history, showing any patterns of late payments or defaults on credit obligations. If you have any derogatory entries on your report, you may be able to explain the circumstances to the loan officer and have them weigh less on the credit decision.

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What Can I Do If My Car Is Repossessed & I Can't Pay the Difference After Auction?

Most people know that if you do not make your car payments, the lender will have your car repossessed. According to Edmunds.com a repossessed vehicle is auctioned off and the amount at auction is applied toward the balance you owe. You are responsible for the difference, and even though you lost the car because you couldn't make the payments the bank wants their money on the balance due.

Avoid Repossession

Because of the credit collapse of the last few years, there have been measures designed to help you either keep your car or give up your car without repossession. According to AutoLoanDaily.com some car manufacturers are offering programs where they will either make your payments for you if you are out of work, or they will allow you to turn in the car without going through a repossession. If you have bought your car recently, contact the manufacturer to see if you qualify for these programs. You could also find out about refinancing your car loan. When you refinance your loan you decrease your monthly payments and that may allow you to keep your vehicle without the fear of repossession.

Take Out a Loan

In some cases the amount you owe after a repossessed car has been auctioned can be significant, and it may be difficult for you to raise the money on your own. Consider taking out a loan to help pay that difference. More than likely you will be required to pay the entire remaining balance due on your repossession and you will not be offered an installment plan by the lender. A personal loan or a home equity loan can be used to help pay the car lender now, and then pay the loan off in installments for the next few years.

Bankruptcy

If the amount you owe is sizable and you are unable to raise the money or get a loan, then NationalBankruptcyForum.com suggests that you may have to consider bankruptcy. If you do not pay the balance on your loan, the lender will take you to court and garnish your wages to pay back what you owe. Not only will you be liable for the loan amount, but the attorney fees for the lender will also be added to what you owe and you could be looking at many years of a garnished paycheck. Discuss bankruptcy with your attorney to see if that will help you discharge the debt.

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Why Do People Lease Vehicles?

When a consumer goes shopping for a new vehicle, she has two basic options to consider: to buy or to lease the new vehicle. While opinions vary on which is the best way to go, there are a number of reasons why a person might choose to lease a vehicle instead of buying one. By understanding the reasons, the consumer can decide for herself whether leasing is a good option for her life.

Driving a New Vehicle

Driving a new vehicle can be a statement of status for some people, while others simply feel safer driving in a new vehicle. Regardless of why a person wants to drive a new vehicle, if driving a new one is important, then leasing may be a good option to consider. A standard lease is for two years, meaning that someone who leases his vehicle will get to drive a new vehicle every two years when the old lease expires.

Less Money Down

Though some consumers buy new vehicles with no down payment or a small down payment, typically the down payment for a new vehicle purchase will be substantially more than a down payment for a lease. For a consumer looking for a new vehicle who does not have the amount of cash needed to make the required down payment, leasing may be an option to consider. Regardless of whether a consumer is buying or leasing a new vehicle, it is always important to investigate and understand all the fees and other costs associated with the transaction.

Lower Monthly Payment

In general, a new vehicle lease requires a lower monthly payment than purchasing a new vehicle. When purchasing a new vehicle, the consumer is making payments on the entire value of the vehicle. With a lease, the consumer is only covering the amount of depreciation that the vehicle experiences during the lease period. In both cases, there is also an additional charge to create a profit for the seller or owner of the vehicle.

Reduced Hassle

Another significant factor for many people in the decision to lease a new vehicle is the reduction in hassle. This is especially true at the end of the lease period. The consumer simply returns the vehicle and pays the fees stipulated in the lease contract. The consumer who purchases a vehicle must sell or trade in the vehicle when she wants to buy a new one. With either selling or trading, typically a lot of negotiation must take place and many consumers simply prefer to not have to deal with this.

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