Car Payment Quick Facts
- Your car payment is the monthly amount you owe to pay back an auto loan.
- Car payments include the principal or the original loan amount, the interest or what the lender charges you to borrow money, and other fees.
- Interest rates have a significant impact on the monthly payment amount.
- Down payments reduce the amount owed, making monthly payments more affordable and potentially lowering the interest rate.
While it would be nice if everyone could buy a new car with cash, the reality is that most people finance their vehicles and make monthly payments. For many of us, that car payment is one of our largest monthly expenses, and several factors affect the amount we pay. In this post, we’ll cover the basics of what goes into your monthly ownership costs.
Important note: It’s easy to become focused on the monthly payment when you’re trying to determine whether you can afford a new car, but be sure to take the time to understand the overall price of the vehicle and the total amount you’ll pay over the life of the loan.
Down Payments
A down payment is the amount of money you pay to lower the overall amount you finance to buy or lease a vehicle. If a car is $35,000 after taxes and fees and you place a $5,000 down payment, you’re on the hook to finance the remaining $30,000 over a set period of time. Lease down payments work in a similar fashion, though they are sometimes lower than a traditional down payment, and you do not own the vehicle at the end of the lease term.
It’s common to hear people say that you need at least a 20% down payment to buy a new car, but the amount varies depending on a range of factors, including the vehicle purchase price, your credit background, the loan term, and your desired monthly payment.
That said, consumer credit reporting agency Experian recommends putting at least 20% down to help safeguard against immediate vehicle depreciation. That way, you don’t owe more than the vehicle is worth as soon as you drive off the lot. Additionally, a higher down payment can help lower your monthly car note. The more you put down, the less you owe, which means there’s a smaller amount to finance.
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Principal
Auto loans are split into two main components: The principal and interest. Principal is defined as the amount you originally agreed to pay, which includes the vehicle purchase price, taxes, and any add-ons, such as warranties or accessories. Using the example from above, the principal for a $35,000 car with a $5,000 down payment is $30,000. You can often get the final principal number from a dealer by asking for the out-the-door price.
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Interest
Interest is basically the price you pay to the bank for the privilege of getting an auto loan, and it’s the primary way lenders make money from issuing loans. The interest rate is generally calculated using an annual percentage rate, which you pay along with your regular monthly payments.
Additional Amounts
If you’re trying to pay the loan ahead of schedule, you can make extra payments toward the principal. You can make these payments after you’ve settled the interest costs for the current billing cycle. Some loans have an early payoff penalty, so read your contract’s fine print and see if there are fees for paying sooner than the maturity date.
Late fees may be added to your next car payment if you miss your loan installment due date. These fees do not apply to principal or interest, and the amount will vary by lender.
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Car Lease Payments
The terms of your car lease payments will differ from those outlined in a conventional finance deal. Instead of paying off the loan, you’ll pay an established amount each month that covers the estimated depreciation over the life of the lease. The interest costs are also wrapped into this closed-end contract. See our comprehensive car leasing guide to learn more.
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- Buying a Car: What Term Should Your Loan Be?
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I never bought a car I haven’t had a drivers license for 8 years???