Car Finance Options

A global positioning system (GPS) makes it easy to get behind the wheel and find your way to an unfamiliar destination, even if there are a lot of twists and turns along the route. However, before you can even get into a vehicle you may feel you need some sort of GPS to negotiate the twists and turns of car finance.

The following is a look at some of those twists and turns - the key decisions you will face in financing a car - along with some tips that might help you to decide which way to go at each one.

Lease or Buy?

Buying a car is not for everyone - not everybody wants that long-term obligation. In particular, if you do a limited amount of driving every year and want to have a fairly new vehicle at all times, it may be more efficient to lease than to buy.

To a large extent, this all come down to the details of the specific lease and loan terms available to you. Even so, there are some general differences between leasing and buying that are worth keeping in mind.

Lease payments are likely to be lower than loan payments on a car, but remember, when the lease term is up you don't own anything. Since cars generally should outlive their loan terms, it would probably cost you less in the long-run to buy if you are willing to hold onto the car for several years.

Keep in mind too that even over the term of a lease, your usage of the car is more limited than if you owned it. Leases generally will have annual mileage restrictions in the 10,000 to 15,000-mile range, and will also stipulate that the vehicle must not show signs of excessive wear and tear. Violating those provisions will cost you additional fees, making leasing more expensive than the original payments might make it appear.

You can hedge the lease or buy decision by choosing a lease that offers a purchase option when the lease expires. However, when you look at the purchase price offered and add in what you would already have paid during the term of the lease, you might find this is more expensive than simply buying the car up front.

Cash or Loan?

Suppose you have decided to buy a car rather than lease. Should you take out a loan, or dip into savings to pay for the car?

Since savings accounts aren't earning much these days, and stock market returns so far in the 21st century have been mediocre, it may seem like you aren't giving up much by using savings to pay for the car. This may be true if you have a very ample amount of savings, but you don't want to draw savings down to nearly nothing because then you might be caught short in an emergency.

Also, saving money is a hard habit to get into, and once you've built up some long-term savings you might find it difficult to rebuild them if you spend them down. If you can hold onto your savings and fit loan payments within a sustainable budget, this might be the best course for both paying for the car now and building wealth for the future.

How Long a Loan Term?

If you have decided to take out a car loan, a fundamental question you will face is how long that car loan should be. The average new car loan is well north of five years these days, and used car loans are getting longer as well.

The immediate appeal of a longer loan is obvious - it will typically mean lower monthly payments. However, there are some underlying costs to longer loans that should make you think twice about them.

First of all, remember that the longer it takes you to pay off a loan, the longer you will have to pay interest. Use a loan calculator to help you look at the total costs of different loan lengths - you might be surprised how much you can save by shaving off a year or two worth of interest payments. Also, shorter loans often carry lower interest rates, so this can further add to the savings.

Another issue is that a longer term may mean that by the time you pay off one loan, you have to buy a new car and initiate another loan. If you are always repaying money to lenders, it becomes harder to ever save money for yourself. This issue is especially important when buying a used car - why would you want a seven-year loan on a car that might only have four or five good years left in it?

The bottom line is that a car loan should never be for a longer term than the likely useful life of the car. Even then, if your budget can afford the higher monthly payments that would go with a shorter loan, this option should save you money in the long run.

Dealer or Independent Financing?

Your friendly local car dealer will probably offer to make things easy for you by arranging financing. That may be convenient, but it is unlikely to be the most cost-effective option.

Keep in mind that many dealers take a markup on the loan terms they can find for you, so that adds another layer of cost. In fact, some dealer's try to make up for this markup by adding a fee on your vehicle purchase if you use outside financing. Even if that isn't the case, they have little incentive to search for the best loan terms for you.

Since online loan shopping has made it so easy to compare multiple offers, why limit yourself to just one source? By all means, consider the dealer's loan terms, but only in comparison with terms offered by independent finance companies. Be sure do the math on your potential savings. If a dealer does charge a non-dealer financing fee, it might eat up the term savings you might get from a lower rate with another lender. But if the savings elsewhere outweighs the fee, or if the dealer doesn't charge a fee, you have an opportunity to save.

Which Lender?

As the discussion of dealer vs. independent financing suggests, you can improve your terms by comparison shopping online. Interest rates are a key part of this comparison, but be sure to factor a full disclosure of any fees into the comparison as well. Looking at total loan cost over the life of each loan can reveal some eye-opening differences between lenders.

The right move at each of the above decision points varies depending on your circumstances, so the journey through the process of car finance varies from person to person. Just be sure to make the best decision for your needs at each step of the process, and you should wind up at the right conclusion to that journey.

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