How Car Loans Work – What You Should Know If You Have Bad Credit

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Getting a car loan with bad credit can be very challenging. Not only is it harder to get a good rate with bad credit, you could end up in serious financial trouble if you commit to a high-APR loan that you can’t repay.

So, to help you get a great rate on a loan, even with bad credit, here are some of the things you should know about how car loans work. By understanding these concepts, you can gain a deeper knowledge of common lending practices, and make sure you get a great rate on your loan.

1. Amortization – You Pay More Interest At The Beginning Of Your Loan

One thing that is very confusing to car buyers is the concept of amortization.

Amortization is the method by which the principal (loan amount) and interest (fee for the loan) are paid off.

When you pay your monthly car payment, part of your money goes directly towards reducing the total loan amount. However, another part goes towards interest payments.

Here’s the tricky thing – early on in your car loan, more money goes towards paying interest than the principal. The total interest you owe is “front-loaded”.

For example, a 60-month, 15% APR loan for $15,000 would have a monthly payment of $357. When you pay your first monthly payment, $187 of this will go towards interest – while only $169 goes towards the principal.

However, the total paid towards interest is reduced over time. Following our above example,  after 1 year of payment, $197 would go to the principal, and only $160 towards interest.

2. Simple Interest – Paying Early (Or More Than Your Minimum Payment Lowers Overall Costs

Simple interest is how the cost of most auto loans is calculated. Here’s how it works.

Simple interest is assessed every day. If you pay your monthly auto loan on time, your interest is calculated for every day of the month. If you had a car loan of $15,000 and a 5% interest rate, you would owe $61.64 in interest for a 30-day period.

However, if you paid 10 days early, interest for the remainder of the month would not be assessed. You would be charged only for 20 days of interest – dropping your interest payment to $41.09, and saving you $20.

To save money, you can make early payments on your car loan, or even make biweekly payments that exceed the minimum of your monthly car bill.

In addition, if you send more than the minimum monthly payment, this is applied directly to the principal. Any money you pay beyond your standard payment will not have interest assessed – so you can quickly lower the total principal of your loan by making extra payments.

3. Early Payments – You Are Not Penalized For Paying Your Car Off Early

Early payments used to be penalized, in some cases, but almost all modern car loans have no early payment penalties.

However, it’s still a good idea to check with your lender before signing, to ensure that you won’t be penalized for paying off your car before your loan term expires.

What should you do if your potential auto loan penalizes you for early payments? Walk away. There’s no reason to partner with a lender that will charge you extra for an early repayment.

4. Interest Rates – Your APR Is Affected By Many Factors

There are a number of factors that can affect your interest rates when applying for a car loan. Here are a few things to consider:

  • Credit score – Your credit score is the biggest factor when determining your APR. A great credit score of 750+ may get you an APR of 4% or even lower, while a sub-600 credit score could mean an APR of 10-15% or higher, in some cases. Make sure you know your credit score before shopping for a car.
  • Age of car – Counter-intuitively, you can often get a better APR on brand-new cars than you can on used cars. This is because car dealerships make more of a profit on new cars, so they can offer more attractive terms in order to get buyers into brand-new vehicles.

  • Length of loan term – A shorter-term loan will usually have a lower APR than a longer-term loan. However, the monthly payment will also be much higher – so bear that in mind when budgeting for your loan.

  • Size of down payment – Typical car buyers put down about 10-20% of a vehicle’s value in cash. But if you can pay for 25-50% of your car with your down payment, you could be eligible for a lower APR, because the overall loan amount will be lower.

Understand Car Loans – Make The Best Financial Decision!

At Ride Time, we know that it can be hard to understand complex car loans. That’s why we’re glad to explain some of the most common terms to you, and help you get more insight into the lending process.

If you have bad credit in Winnipeg or anywhere else in Canada, we’re here to help. We have a relationship with over 15 lenders who specialize in issuing loans to Canadians with bad credit. Give us proof of 3 months of employment and $1,500/month in net income, as well as a valid Canadian driver’s licence, and we can help you find a great car.

Don’t wait. Come in today, or browse our stock online.


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