Rebecca Bernard
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We Need To Change How We Think About Car Financing

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This past spring, I made the biggest purchase of my life by buying a certified pre-owned vehicle, and I signed on for a decently-sized five-year loan to pay for it. It was a big decision for me, and I was definitely freaking out when I signed the papers, but I had worked out that I could make the payments religiously without being overburdened by their size. If all goes as expected (knock on wood), I will pay off my loan as soon as possible and then continue to drive my vehicle payment-free for as long as I can.

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However, it seems like my position is becoming rarer in the car world. While I plan on having my car paid off before I would even consider purchasing a new vehicle (unless there was some sort of reason why I had to buy earlier), more and more car buyers are buying cars while they still owe more than their current car is worth. In car terms, these buyers are underwater.

Drivers can still make a purchase, but the amount they still owe after a car is traded in on their old loan is then often rolled into the car loan for the new vehicle. Jalopnik reports that a study conducted by Edmunds has estimated that about 32% of car buyers are in this situation when they buy a new vehicle. This might not seem like a very high percentage, until you consider that is a record. Even in 2006, during the housing boom right before the recession, only 29.2% of car buyers were underwater, or had negative equity in a car. This cycle of debt can make it very difficult for a consumer to ever have the means to get out from under the debt, and could cost them more money in the long run.

The current financing trend is being blamed on record low interest rates on loans, and initiatives by lending institutions and manufacturers to extend a loan period beyond what is best in the interest of low monthly payments.

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To avoid a situation like this, Jalopnik states that it’s very important for car buyers to actually make sure they can afford the vehicle they are purchasing. Figure how much you can pay monthly on a car loan, and then do some multiplication to figure out how large of a loan you can afford to take out. Try to figure on a car loan for about five years so that you can earn equity in a vehicle faster. Another big help in keeping the cost of a car lower and hopefully keep your head above water is to save up more cash for a larger down payment on a vehicle to make the starting cost of a loan smaller than before. While buying the biggest car will all the bells and whistles on the lot might sound like a good idea at the time, your bank account will thank you for buying a car more within your means.

News Source: Jalopnik

  • Rebecca BernardEditor

    A Dayton native, Rebecca got her start blogging at the curiously named Harlac's Tongue while studying abroad in the UK. She loves tooling around town with her Ford Focus named Jerome to the song they're playing on the radio. On any given weekend, you can find her with her camera at area festivals, concerts, and car shows, shopping at flea markets, or taking an adventure on the open road. See more articles by Rebecca.

  • Boris

    Figure out how much loan you can afford, then multiple that amount by 75%. You may be able to afford a $400 car loan on a $21,500 car, but that doesn’t mean you will be able to afford the $125 per month insurance. And also don’t forget that 21,500 price for the car doesn’t include > $2000 worth of sales tax,, state fees and dealer fees (At least $350) that you will need to add to the price of the car.

    $125mo insurance * 12 mos = $1500. Plus the $2000 in taxes and fees plus the $21,500 car, now you’re looking at a $25,000 cost instead of $21,500.

    Most folks put some money down ($2500?) and finance the rest. That means you are taking a loan out on $22,500 to pay back in, say five years.

    If the interest on that loan is 0% then that loan cost you nothing to take out – after five years you will have only spent $25,000 in total. If the interest on that loan is 5%, then you will have paid back $3,500 in interest over the five year term.

    That means: If you are buying a brand new car for an agreed upon price of $21,500, that car will be worth exactly $18,000 the SECOND YOU DRIVE OFF THE LOT. Along with taxes, fees and typical 5% interest, you will in fact be spending $28,500 to drive a brand new, $18,000 car.

    Take away? If the most you can afford to spend is $21,500, then start on looking at $15,000 cars and be comfortable knowing you can add that sunroof and upgraded stereo..