Understanding Auto Loans
An auto loan is a secured loan where the vehicle serves as collateral. The Truth in Lending Act (TILA) requires lenders to disclose the APR, finance charge, amount financed, and total of payments. Understanding these terms helps you compare offers and avoid overpaying.
What Is in a Car Payment?
A car payment includes principal (paying down the loan) and interest (the lender's charge for borrowing). The amount financed may include the vehicle price minus down payment, plus taxes, fees, and any add-ons rolled into the loan. A low monthly payment does not always mean a good deal. A longer term can lower the payment while dramatically increasing the total cost.
APR and Interest
APR (Annual Percentage Rate) represents the yearly cost of borrowing and must be disclosed under TILA. Credit scores heavily influence the APR offered. Higher scores typically qualify for lower rates. Dealer rate markup can add percentage points above the lender's approved rate.
Loan Terms and Total Cost
Common auto loan terms range from 36 to 84 months. Longer terms lower monthly payments but increase total interest paid and the risk of negative equity. A 72-month loan at the same rate can cost thousands more than a 48-month loan. Always compare total of payments, not just monthly amounts.
Negative Equity
Negative equity occurs when the loan balance exceeds the vehicle's value. This is common with small down payments and long loan terms because cars depreciate rapidly — often 20% or more in the first year. Rolling negative equity into a new loan compounds the problem.
Late Payments and Repossession
Repossession laws vary by state. Some states require notice before repossession; others allow self-help repossession without prior notice. After repossession, the vehicle is typically sold at auction. If the sale does not cover the loan balance plus fees, the borrower may owe a deficiency balance.