Financing $28,000 at 7.9 per cent over 60 months costs $566.40 a month and $5,984.00 in interest. The same amount over 84 months costs $435.02 a month and $8,541.71 in interest. The longer term saves $131.38 every month and costs $2,557.71 more overall — a 42.7 per cent increase in the cost of the borrowing.
The interest is the visible cost. The larger and less visible one is that the loan pays down more slowly than the car loses value, so for a long stretch of the term you owe more than the car is worth.
What does each term cost?
The same $28,000 at the same rate, over four common terms.
| Term | Monthly payment | Total interest | Total paid |
|---|---|---|---|
| 48 months | $682.25 | $4,747.92 | $32,747.92 |
| 60 months | $566.40 | $5,984.00 | $33,984.00 |
| 72 months | $489.56 | $7,248.66 | $35,248.66 |
| 84 months | $435.02 | $8,541.71 | $36,541.71 |
Each step of twelve months buys a smaller monthly saving than the one before it and adds a similar amount of interest each time. Going from 48 to 60 saves $115.85 a month; from 72 to 84 saves $54.54. The payment curve flattens while the interest keeps climbing.
Why does the term get negotiated instead of the price?
Because a longer term can absorb a higher price without changing the monthly figure, and the monthly figure is what most buyers are actually deciding on. A $2,000 increase in price is nearly invisible spread over 84 months and obvious over 48.
The defence is to fix the term first and negotiate the price against it, or to negotiate the total rather than the instalment. Any conversation conducted entirely in monthly payments has a free variable in it that is not on your side.
What is the negative equity problem?
A new car loses a substantial share of its value in the first two or three years, and an amortising loan pays off slowly at first because the early payments are mostly interest. Between those two curves is a period where selling the car would not clear the loan.
After three years of the 84-month loan the balance is still $17,853.57, which is 63.8 per cent of the original amount, while a three-year-old car has typically lost considerably more than a third of its value. The gap has to be paid in cash to sell, or rolled into the next loan — which is how a buyer ends up financing part of a car they no longer own.
The 48-month version has the opposite shape. After the same three years its balance is $7,847.15, or 28.0 per cent of the original — higher payments, faster amortisation, and equity long before the end of the term.
What does the tax and trade-in do to the amount financed?
It usually raises it more than people expect, because sales tax is charged on the price rather than on what you pay after the deposit. A $32,000 vehicle with 6 per cent tax and $4,000 down finances $29,920, not $28,000 — and at 7.9 per cent over 60 months that is $605.24 a month with $6,394.33 of interest.
A trade-in behaves differently. In many US states the taxable amount is the price less the trade-in value, which makes a trade-in worth slightly more than its cash equivalent. Whether that applies is a state-by-state matter and is worth checking before comparing a trade-in offer against a private sale.
Does zero per cent finance beat a discount?
Sometimes, and the comparison is arithmetic rather than instinct. Manufacturer finance at 0 per cent is often offered instead of a cash rebate, so the real question is whether the interest you avoid exceeds the rebate you give up.
Compare the total paid under each. Zero per cent on $28,000 over 60 months is $28,000. A $2,500 rebate with a 7.9 per cent bank loan on $25,500 is $30,949.71 in total, so the zero per cent offer wins by $2,949.71. The break-even rebate at these numbers is $4,930.32 — below it the finance offer wins, above it the cash does. The threshold is specific to the figures and cannot be judged from the headline.
Questions people ask
Does a bigger deposit lower the rate? Not usually by itself. It lowers the amount financed and therefore the interest, and it can move you into a lower loan-to-value tier at some lenders, which is a different mechanism.
Should I take the longest term and overpay? It is a defensible strategy, because it buys flexibility for the price of a slightly higher rate on many offers. It only works if the overpayment actually happens.
Is there a penalty for early repayment? On most US car loans, no. Elsewhere it varies and can be substantial, so it is worth confirming before planning around it.
Why is my dealer’s payment higher than this? Add-ons, usually — extended warranties, protection products and documentation fees financed into the loan. Each one is a purchase, and each one also attracts interest for the whole term.
Does gap insurance solve negative equity? It covers the gap if the car is written off or stolen, not if you simply want to sell. It is insurance against an event, not against the shape of the loan.
Choose the term on the total and the equity curve, not on the instalment. The car loan calculator includes the tax and trade-in in the amount financed, the loan calculator shows what an overpayment does to any of these, and the mortgage calculator is the same arithmetic over a much longer horizon.