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If you see a low interest rate on a car loan, it’s important to know that's not necessarily how much you'll end up paying.
Lenders will decide your final interest rate based on things like your credit score, the type of car you're buying and how much it costs. Some rates may only apply to certain loan amounts or have other specific criteria you will need to meet.
This means if you're buying a car that is 3 years old and you want to borrow $21,000, you may be paying a higher interest rate than the one you saw advertised.
It's also important to find out whether your car loan has a balloon payment option as this may keep your repayments down month to month, but you'll have to make a lump sum payment at the end.
Lenders set their interest rates based partly on your credit score. Having an excellent credit score (800 or above) means you can get a lower rate on your car loan. A lower score can result in a higher interest rate.
You can check your credit score quicky for free before you look at car loans. If your score is on the lower side, there are steps you can take to improve your credit score.
Simone wanted to borrow $25,000 to buy a new car but didn't want her repayments to be higher than $400 per month. She set her loan term to 5 years to keep her payments at $400 per month, but doing this means she would have a $10,000 balloon payment due at the end of the 5-year term.
She can choose to pay this $10,000 by refinancing her car loan's outstanding balance with her current lender or a new lender. This means she'll have a new $10,000 loan to pay off over the next few years.
She also has the option to trade in her car and buy something else. If her car is worth $15,000 when she trades it in, and she buys another car for $25,000, she'll need a new car loan of $20,000 – $10,000 to pay out the existing loan, and another $10,000 to cover the gap on the new car.
* This is a fictional, but realistic, example.
Let's assume you want to borrow $20,000. Over a 5-year term you might be quoted an 8% p.a. interest rate, but you're offered a 7.5% p.a. rate if you accept a 7-year loan term.
| Low interest loan details | Low option 1 | Loan option 2 |
|---|---|---|
| Loan Amount | $20,000 | $20,000 |
| Loan Term | 5 years | 7 years |
| Interest Rate | 8% | 7.5% |
| Monthly Repayment | $405.53 | $306.77 |
| Total Interest Paid | $4,331.80 | $5,768.68 |
In this example, you're paying 8% p.a. on the 5-year loan term, so your repayments are $405.53 per month. You end up paying $4,331.80 in interest charges over 5 years.
By comparison, if you take the cheaper interest rate at 7.5% over a longer 7-year loan term, your repayments are almost $100 cheaper at $306.77 per month. This can be a very appealing option as it's obviously more budget-friendly. Unfortunately, even with the cheaper interest rate, you end up paying more than $1,436 in additional interest charges.
An option you have is making additional repayments and paying off your low interest rate car loan sooner while letting you take advantage of the cheaper interest rate. It's important that you check if you'll be charged an early repayment fee that wipes out any savings you thought you were getting.
When searching for a low interest rate car loan, you should consider:
| Years remaining | Principal remaining |
|---|
As the lender will need to be able to recoup its losses by selling the vehicle if you default on a loan, a newer car is usually preferred. New car loans tend to attract lower rates than used car loans. "New cars" are vehicles under 2 years of age.
A secured car loan is going to come at a cheaper interest rate than an unsecured loan. This is simply because the bank is able to use your car as security for a secured loan, meaning they can recoup the costs if you can't meet repayments.
Some banks offer both fixed rate car loans and variable rate car loans. The variable rate offered is usually cheaper than the fixed rate because it might fluctuate throughout the loan term.
There are some lenders out there offering lower rates for longer loan terms. For example, if you agree to extend your loan term up to 7 years instead of taking out a 5-year loan, you could find that your interest rate drops a little. Don't automatically assume that a lower rate will mean a cheaper car loan. It's important to work out your total cost over the entire loan to be sure you're getting the best car loan deal.
If your loan application shows that you have a stable employment history and you can show payslips to verify your income, you're likely to qualify for a low interest rate car loan. However, if you're self-employed and you can't verify your income with payslips or tax returns, it's likely you'll pay a slightly higher rate with a low-doc loan.
If you've seen a really low interest rate car loan advertised but you have a bad credit history, it's likely you won't qualify for those really good rates. Your cheap car loan search will usually be limited to lenders that offer bad credit products.
Some lenders will include extras on top of your loan repayment. These might include loan insurance premium payments, where you're paying for a policy that covers you in the event you can't keep up with repayments. This can increase the amount you have to pay each month but doesn't go towards your car loan balance at all.
If you're getting your low interest rate car loans through a broker or through the finance officer at the car dealership, you might also be expected to pay brokerage fees on top of other finance fees. With some brokers, this can be as much as 4% of the amount you're borrowing.
Low interest car loans come with a few costs, but each individual loan differs depending on the lender you apply with. Here is a breakdown of some fees to watch out for:
Always check what fees are being charged on your loan and wherever possible, ask for them to be reduced. If the broker or finance officer won't reduce them, shop around elsewhere for a better deal. When considering low interest car loans, remember to compare car loan options before you apply.
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