Buying a car? Here are some key auto loan terms to know
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Quick insights
- Understanding auto loan terminology can be key to navigating the car buying process and making informed decisions.
- The terms of your auto loan, including the interest rate and fees, can impact the total cost of your vehicle.
- Exploring different loan options, assessing your budget and understanding your credit score are important steps in applying for an auto loan.
Understanding auto loans and their terms can help you save money and make the right decisions for your financial situation. Let's dive into the world of auto loan terms.
Preparing for the car buying journey
Buying a car, whether it's your first or fifth, is a significant financial decision. Before you step foot in a dealership, it's important to do your homework. Understand your budget, research the type of car you want and familiarize yourself with common auto loan terms. Knowing these terms can help you navigate the financing process, understand the true cost of your loan and help ensure you get the best deal possible.
Top car loan terms to know
Understanding the language of auto loans can help you navigate the car buying process. Here are some of the key terms to know:
- Manufacturer's suggested retail price (MSRP): The MSRP is the price the manufacturer recommends the dealership sells the car for. It's important to note that the total cost of buying a car can be higher than the MSRP once taxes, fees and any add-ons are included.
- Principal: The principal is the initial amount of money you borrow to purchase the car. It does not include interest, down payment or any additional fees.
- Interest: Interest is the cost of borrowing money. It's calculated as a percentage of the principal and added to your loan balance.
- Annual percentage rate (APR): The APR of an auto loan is expressed as a percentage and gives you a comprehensive view of the loan's cost. APR covers both the interest charged by a lender as well as any prepaid finance charges. These charges vary between lenders, so it can be important to take note of them.
- Term: The term is the length of time you have to repay the loan. It's usually expressed in months, and longer terms can result in more interest being paid overall.
- Down payment: The down payment is the amount of money you pay upfront for the car. It reduces the principal amount you need to borrow.
- Balloon payment: A balloon payment is a large payment due at the end of a loan. Loans with balloon payments often have lower monthly payments, but a larger amount due at the end.
- Amortization: Amortization is the process of paying off your loan over time through regular payments. Each payment you make gets divided between the principal and interest.
- Depreciation: Depreciation is the decrease in value of a car over time. Cars depreciate quickly, which can impact your loan if you owe more than what the car is worth.
- Warranty/extended warranty: A warranty is a guarantee from the manufacturer or dealer that certain problems with the car will be fixed free of charge within a certain timeframe. An extended warranty, which is usually purchased separately, extends this coverage.
- Prepayment penalty: A prepayment penalty is a fee that may be charged if you pay off your loan early. Not all loans have prepayment penalties, so it's important to check your loan agreement.
- Refinance: While typically not relevant for the beginning of the car-buying experience, refinancing is the process of replacing your existing loan with a new loan. The new loan often has a lower interest rate or a different term, which can reduce your monthly payments or the total cost of the loan.
- Truth-in-lending disclosure: This is a document that lenders are required to provide under the Truth in Lending Act. It includes important details about the loan, including the APR, term and total cost.
- Co-signer: A co-signer is someone who agrees to repay the loan if you can't. Having a co-signer can help you get approved for a loan if you have poor credit or little-to-no credit history.
- Equity: Equity is the difference between the value of the car and the amount you owe on the loan. If your car is worth more than you owe, you have positive equity. If you owe more than the car is worth, you have negative equity or are "upside down" on your loan.
- Loan-to-value ratio (LTV): The LTV is the ratio of the loan amount to the value of the vehicle. A lower LTV means you're borrowing less compared to the value of the car, which can make the loan less risky for the lender. For example, if you're purchasing a car valued at $20,000 and your loan amount is $15,000, your LTV would be 75%, indicating that you are financing three-quarters of the car's total value.
Choosing an auto loan
Selecting the right auto loan is an important step in the car buying process. Here are some key considerations:
- Review your credit score: Your credit score plays a significant role in the interest rate you'll be offered. You may want to check your credit score and credit report in advance, giving yourself time to address any issues if necessary.
- Assess your budget: Consider all costs associated with owning a car, including the down payment, monthly payments, insurance, maintenance and fuel. This will help you determine how much you can afford to borrow.
- Explore loan options: Auto loans are available from various sources, including banks, credit unions and online lenders. Comparing offers from multiple lenders can help you secure the best terms.
- Dealer financing: While you may have a preapproved auto loan offer, it can be worth exploring if the dealership can offer better financing terms than your bank.
- Finalize the loan: Once you've chosen your vehicle and agreed on the price, you'll need to finalize your loan. This involves completing all necessary paperwork and agreeing to the loan terms.
The bottom line
Understanding auto loan terminology can help you make informed decisions when buying a car. By familiarizing yourself with these terms, you can navigate the car buying process more confidently and help ensure you get the best deal possible.
Learn about auto financing and more with Chase Auto
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