Auto Loans: Comparing Apples to Apples

Richard Barrington
LoanBiz Columnist

Many people who would shop diligently for a mortgage don't think twice about how they obtain an auto loan. While they would actively compare a variety of mortgage lenders, they meekly allow their dealer to get a car loan for them. These people are missing an opportunity by not shopping around before settling on an auto loan.

Mortgage vs. Auto Loan

Perhaps these people feel that there is simply more at stake with a mortgage than with car financing. After all, a home costs several times the price of a car. On the other hand, in the time it takes to pay off a mortgage, a typical family will have to get a car loan several times over. If they were to add up the total cost of cars purchased while they live in the same house, they would see that the stakes in car financing are really quite high.

The truth is auto loan terminology can be confusing, and loans are structured in so many ways that it may seem difficult to get an apples-to-apples comparison. The following are three things car buyers can look at to compare auto loans.

Stated Interest Rates vs. APR

Interest rates can be manipulated by lenders by adjusting the upfront costs of a loan, but the Truth-in-Lending Act requires all lenders to calculate an APR, or annual percentage rate, the same way. Therefore, when comparing car financing rates, borrowers should be sure to use APR to get a usable comparison.

Other Fees

When it comes time to actually get a car loan, it often seems there is a baffling array of fees to be paid. Some of these may be included in the APR, and some may not. Different lenders may have a variety of different names for these fees, making it difficult to compare them. Borrowers can cut through all this mystery by simply asking for written disclosure of any fees or charges which are not included in APR. It doesn't matter what the lenders actually call these fees, but getting a lump total of expenses outside of APR will give the borrower another basis for comparison.

The Cost of Time

Another type of comparison that can be difficult to make is comparing loans over different time periods. Interest rates on longer loans are generally higher, and paying interest over a longer period increases the cumulative interest expense. In addition, upfront fees matter when comparing two loans of differing lengths. A 5 year loan will have a higher APR than a 7 year loan with the same fees and rate, because the fees are spread out over a shorter time. Yet the borrower will pay less total interest by paying the loan off over 5 rather than 7 years. So loans should be of the same length to get a valid APR comparison.

A car loan calculator can help borrowers see the total cost of the loan. This will help them see how much they are paying over and above the price of the car, and how much the extra time in a longer-term loan is really costing.

About the Author
Richard Barrington is a freelance writer and novelist who previously spent over twenty years as an investment industry executive.