Here’s why a long-term auto loan may not be a great idea

Here’s why a long-term auto loan may not be a great idea

Listen, I get it. At first glance, taking a longer time to pay off that car loan seems to make sense.

For one thing, you’re now paying more than ever for those new cars. According to data from Experian, the average car new loan is a little more than $30,000 while the average used loan is about $19,000. For another, the average American tends to keep their cars for 11.6 years, much longer than they used to, according to Forbes.

When you look at that information, a loan that would allow you more than five years to pay off sounds like a great idea. You’ll still have your car in that time – and you’ll get to forgo yet another large monthly payment. Sounds like a win-win, right?

Not always, according to experts. Here’s why:

  • You could end up paying much more for your car. Remember, loans accrue interest over time. So if you finance a $30,000 car over five years at 6 percent, you’ll end up paying $34,799 over the term of the loan. If you borrow for seven years, you’ll pay $36,813 for that $30,000 car, according to Forbes. That means you’ve paid 7 percent more than you would have.
  • That means you’re “underwater” immediately. You’ll leave the lot owing more to the lender than the car’s worth. And that loan will drag you even further under water as time goes on. Autos are depreciating assets. Forbes reported that a new car loses 11 percent of its value the moment it leaves the lot and will continue to depreciate 25 percent each year for the first five years of its life. So, if you’ve opted for a seven-year loan, you’re could be paying significantly more than your car is worth by years six and seven.
  • You could end up in an “underwater” cycle. Let’s say you end up needing or wanting to trade that car in before five years into your seven-year loan. You still owe $5,000 on the car – and you need a new one. A dealer will almost certainly make you a deal that will bury that $5,000 in your new loan. That means you’ll already be paying more than your next car is worth to the lender. Feel like you’re drowning, yet?
  • You’ll likely end up paying for repairs while still paying off your loan. Cars age quicker than we’d like them to. A 6- or 7-year-old car will likely have more than 75,000 miles on it, according to NerdWallet. So by the end of your 7-year loan, you’ll more than likely need to pay for new tires, brakes and other expensive maintenance. In combination with a monthly payment as high as $500, that funnels a lot of your paycheck toward that car.

That’s not to say longer term car loans don’t have a practical purpose. Forbes points out that some lenders, including many credit unions, offer “very low rates for borrowers with excellent credit.” Georgia credit unions offered 2.52 percent interest on a five-year new vehicle loan, for example.

But if you don’t have stellar credit, it’s usually best to steer clear of long-term loans.

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