Why you should keep your short term car loan, there are many avenues you can explore. Traditional car loan products, and more—it can be tricky to know which type is best for you.
Short Term Car Loans
Before we dive into the differences between a short term loan and long term car loans, let’s go over what a short term car loan is more generally.
A term car loan is when a lender approves you for a lump sum of cash that you pay back, plus interest and other fees, over time.
This is a traditional type of financing and probably what you’d imagine when you think of a car loan. The repayment term, or the amount of time you have to pay back the auto loan, is one of the major factors that distinguish a short- vs. long-term auto loan.
What is a short-term Car loan?
Short term car loan operates much like the traditional term loan described earlier. You get a lump sum of cash that you pay off over time, plus interest and other fees.
However, the repayment term for this type of financing is characteristically short. Typically, with a short term loan, you pay back the short term car loan, plus interest, over three to 18 months with daily or weekly payments.
This differs from short term car loans where you generally pay the auto loan back over a number of years with monthly payments.
Due to the shorter repayment period, short-term auto loans also come with higher interest rates, for short term car loans.
The amounts are typically smaller than those of long-term car loans but can be as high as $250,000; short term loan is commonly secured online through alternative lenders.
Why consider a short-term Car loan?
A short term car loan is ideal for college students dealing with the unexpected. Whether that’s a cash flow issue before your busy season, a surprise project that calls for additional supplies or equipment, or an uptick in demand for a product.
The shorter repayment term also means lenders are more willing to take a risk on a borrower who has weak credit, so even if your score is less-than-stellar you may still be eligible for this type of short term car loan.
Terms for vehicle loans can vary widely based on the amount of down payment money you supply and the amount of monthly car payment you can afford. Three or four years is a common loan term, but some vehicle loans can be stretched out to seven years or more.
A long-term loan can significantly reduce your monthly payments
It is usually not the best choice. Here are the reasons why:
- Higher Interest Costs – The tradeoff for your reduced monthly payment is a significantly higher amount of interest paid over the life of the car loan. We illustrate this point by comparing a 2013 Honda Accord with five-year and seven-year terms using the available interest rates and price data.
- Their total to be financed was $30,266.A five-year car loan carried a 2.69% rate and resulted in monthly payments of $540 and $2,115 in finance charges for a total of $32,381 paid.
- Meanwhile, a seven-year car loan carried a 4.9% interest rate and resulted in monthly payments of $426 and $5,548 in finance charges for a total of $35,814 paid.
- You would be paying more than double the finance charges just for the ability to pay less each month – and that is comparing seven and five-year loans. Three-year car loans provide an even larger contrast.
Short Term Auto Loan Tips
- Resale Value – Do you plan to keep the car for a long time? Depreciation is rapid for cars, and the resale value drops disproportionately in the first few years after purchase.
- If you plan to trade the car in relatively early and you have a long-term car loan, you could find yourself in a situation where you still owe more on the car than its trade-in value. If you plan to keep the car for a long time, this is less of a concern. However, an accident in the early years can total your car and throw you into this situation involuntarily.
- The temptation to Overspend – The majority of people stretch out car payments because they cannot afford the monthly payment for a shorter term. However, you should also consider whether buying a less expensive car or a used car instead of a new car, would be a better choice.
- If you aren’t looking at the overall financial picture, a longer-term car loan can lead you toward thinking you can afford a more expensive car than you may want but do not necessarily need.
- This might fulfill the goals of the car salesman — such as paying for his next car with the commissions he earns from your sale — while not being in your best interest.
- Clearly, you need to consider not only what monthly payment you can afford, but also project how long you can afford monthly car payments. There will be other expenses in the future to consider.
- Delaying Changes – If you are an average driver, you may get tired of your vehicle before the car loan term is up – the average age of a trade-in for 2013 was 6.5 years. You may well love your car for many, many years, but you will be more hesitant to trade and have fewer options if you still owe money on your car.
The Pros of a 36-Month Car Loan
Lower Interest: Typically, the shorter the car loan, the better the interest rate the lender will offer. Shorter car loans tend to have a lower risk of default by the borrower.
The lender rewards short term car loan borrowers by reducing the interest rate. Essentially, you will pay less overall for your vehicle versus signing for an extended car loan.
Pay Off Your Car Loan Fast: A common car loan length is 60 months or 5 years long. Choosing a short-term car loan locks you into a larger payment versus a 60-month car loan, no going back and paying less.
The good news is you are on a path to getting out of debt in a reasonable amount of time. The faster you pay off debt, the faster you can move on to the next latest and greatest thing. The best part about a short-term car loan is that it is short term.
The Cons of a 36-Month Car Loan
It Ties Your Money Up: Committing to a high monthly car payment is a big decision. Most importantly, the money will not be available for emergency expenses.
It is very important to figure out your budget before agreeing to the short terms car loan terms. Make sure the likelihood of being tight on funds is very low throughout the entire course of your short term car loan. It makes no sense to agree to speed up the repayment process just to default and have the vehicle repossessed.
Other Car Loan Term Considerations
Explore all of your options. Use a short term car loan calculator to help you go through all the numbers. First, find out what the interest rate options are per length of the short term car loan.
Then input the length of the short term car loan with the coordinating interest rate into the car loan calculator. Write down all the loan payment amounts.
48-Month Car Loan: Sometimes the lender charges the same interest rate for both the 36-month car loan and the 48-month car loan. Consider taking the lower monthly payment with the longer loan, then pay more than the minimum. The big difference here is if you run into a financial jam, you can very easily start paying the minimum due to free up money for the emergency.
Length of Car Loan Term
60-Month Car Loan: Even if a 60-month car loan comes with a little higher interest rate, it is still possible to pay the loan off early. (Assuming there are no fees in the small print for paying off the car loan early.)
Again, just pay more than the minimum due. At the end of the auto loan, the final difference in interest may not be all that much. Plus, you have the freedom to lower your payment to the minimum due anytime you see fit.
Longer than 60-Month Car Loan: Going longer than 60 months on a car loan is not recommended. It is usually a sign you cannot afford the vehicle.
Refer back to the part about owing more than the vehicle is worth. The higher interest rates combined with the length of the loan nearly makes staying ahead of depreciation impossible. Paying extra on car loans does not work for everyone.
For some, the temptation of accessible cash is just too much. Locking yourself into a short-term loan and committing to improving your financial future only works if you can stick with it.
Refinancing is a possibility, but it can also be a hassle. Your best bet is to pick the proper loan the first time around. It is easy to see there are many more pros to a short-term auto loan than cons.
Please keep in mind there is no perfect car loan for everyone. Everyone has a different story and different circumstances. The most common auto loan is now averaging more than 60 months.
Cars are becoming more and more expensive making short-term car loans more and more difficult to afford. Budgeting properly can be a game-changer for your entire future.
Choosing the right short term car loan length can help get you to financial freedom. Before you sign up for that long-term car loan, run some numbers and think about these points. You may decide that a shorter loan term is in your best interest after all.