Some auto lenders are considering a jump to offering 84-month loans for new cars and trucks. While paying interest for seven years doesn’t appeal to some customers, others will take that deal if it helps them afford a more expensive vehicle.
Why Bump Up the Loan Length?
An 84-month term is a boost from the traditional high of 72 months, which some car loans currently offer. Automakers may be able to sell more cars because of the longer loan terms, and auto lenders will make more money off of the interest charged.
Light trucks are all the rage right now, making up over two-thirds of all auto sales in the U.S. These vehicles don’t come cheap, with the average sticker price at more than $30,000. And with options added on, it can inflate the price by thousands more. Such a high price tag makes the trucks out of reach for many households without a longer-term loan.
So from an automaker and auto lender standpoint, it makes great business sense to offer longer-term loans. They’ll likely sell more vehicles, which is good for business.
The buyer, however, should be leery of such a long loan term for multiple reasons.
Why a Loan That Length Isn’t Good for a Buyer
Paying interest for seven years on something that depreciates in value is rarely a good idea. To avoid paying interest, buyers can save up money for the purchase they want to make and pay cash for it.
Because that can be tricky, especially for people who don’t earn much money but want a reliable car, car payments are the route many buyers go. In 2017, 107 million Americans held vehicle loans. That number had increased dramatically since 2012 – back then 80 million Americans had vehicle loans.
But even if a vehicle loan carries zero-percent or low interest, it still carries a risk for buyers. That’s because, unlike houses in most cases, vehicles lose value over time.
Because the principal will be paid down over a much greater length of time with a seven-year loan, borrowers can be underwater on the loan. If they’ve put a lot of miles on the vehicle in four or five years, they may start looking for a replacement vehicle. But when they try to trade in their old vehicle, they may find they owe more than what the vehicle is worth.
That means they’ll go into their next vehicle upside down on the loan or they’ll have to hang onto the vehicle until they can get more on the trade-in than they owe.
The best way to avoid this situation is to finance the vehicle for as short of a term as possible. If borrowers are able to pay off the car during a four-year period, they should do so instead of financing it for a longer term.
The other solution is to pay a chunk of cash upfront while purchasing a car. Making that initial down payment can help ensure borrowers won’t find themselves underwater on a loan.