Most people will probably understand the basics of how a monthly car loan payment is worked out - they'll understand the simple facts that affect a loan's cost, like interest rates or the length of the repayment period.
But there are many more factors that determine the cost of your monthly car loan payment. Understanding these can help you avoid getting trapped in painful terms that you struggle to afford each month and it can help to keep your credit score healthy.
In this article, I'll be doing a deeper dive on the surprising things that can affect the overall cost of your monthly car loan payment. I'll be looking at how that payment is structured and the factors that influence it. I'll also be providing you with some handy tips to manage your finances along the way and help you secure a better rate.
Let's get started.
1. Credit history
Your credit history is basically what it sounds like - a record of your borrowing history. It has details about every type of official financial arrangement you've ever entered into, from small affairs like cell phone and internet contracts through to the larger likes of mortgages and bills. It plays an important role in determining how high a lender sets their auto loan repayment.
Car loan lenders will sift through the records in your credit history and look for any possible signs that you might pose a risk when it comes to paying your financial commitments on time each month. Specifically, they'll look for evidence that you've got a habit of missing payment dates, if you've been subject to any repossession orders or if you've been declared bankrupt.
You'll generally find that having any of these red flags on your credit history will result in an auto finance lender charging you a higher monthly repayment for your loan.
2. Credit score
This is a measurement used by lenders to determine how much of a financial risk you are. In Canada, credit scores usually take the form of a numerical value between 300 and 900, with a 'good' score being considered around the 650 mark. That said, around 20% of Canadians have a score below this.
It goes without saying that your credit score will be a big influence on how favourable your overall auto loan terms are, and ultimately, the cost of your monthly repayment. Higher credit scores provide access to more favourable interest rates and better repayment terms from auto finance lenders.
If you're interested in improving your credit score, there are a few simple tips you can follow:
- Consider consolidating problem debts into a one consolidation loan
- Budget to pay off high outstanding credit balances quickly
- Limit the number of new credit accounts that you open
If you want to find out more, this resource gives you some great advice about rebuilding your credit score.
3. Down payment
The amount of money that you put forward as your initial down payment is likely to have a significant impact on the overall cost of your monthly loan repayment too.
The down payment is essentially protection for the lender, in case you default, or walk away from the loan before the terms have expired. Offering a higher down payment can lower your monthly car loan repayment, while offering a smaller down payment will make it more expensive.
The reason behind why the deposit affects the overall price of the auto loan is similar to other types of financing - think of buying a house, for instance. If you put down a higher initial deposit, you'll end up paying a lower monthly mortgage payment. That's because you're effectively borrowing less from the lender. In simple terms that means the more you put down, the lower your bill.
Pros of a higher down payment
- You're borrowing less from the lender, so you'll receive a lower monthly repayment.
- You'll end up paying less interest overall
Cons of a higher down payment
- You have to find a larger amount of money to pay
- It takes a while to benefit from the saving
4. Duration of contract
You probably knew this already, but the length of your auto loan contract obviously plays a key part in determining how much you're going to have to repay each month.
You'll pay back less each month with a longer repayment term but you'll probably pay more overall. On the other hand, a short contract might cost you more right now but could end up with you paying less in the long term.
Most agreements usually run for around 72-months but you can also get longer and shorter ones, depending on your requirements.
Which option you decided to go for will depend on your own financial circumstances and what your current priorities are.
5. Interest rate
Interest is basically a fixed-rate fee that is paid on a regular basis to a lender, for the benefit of delaying the repayment of a debt. How much interest you pay on your loan is closely tied to your credit score.
If you have a good credit score, you're likely to find that your overall level of interest will be lower. On the other hand, if you've got a bad credit score, say hello to higher interest rates.
Your interest rate is personal to you - they are effectively a reflection of financial risk. That's why it's essential that you receive the right support when it comes to navigating the tricky world of interest rates.
A good auto loan provider will be able to provide you with specialist advice to help you find the best interest rate. We sift through thousands of auto loans to find the right product that's tailored to your needs, for instance.
(If you're hungry for more details, we've explored the hidden factors that can influence your interest rate in depth in this article)
6. Your income
Your household income plays a surprising role in determining your auto loan repayment rates. That's because (you guessed it) it's used by lenders as an indication of how much of a risk you are to lend to.
Lenders will consider you less of a direct risk when your income is high and your debts are low. You'll benefit from lower monthly car loan repayments, as a result.
7. Your debt
If you have high levels of personal debt, it's likely that you're going to face higher monthly repayment costs on your loan, as lenders consider whether they trust you to repay what you owe on time.
Canadians owe over $2trillion in debt, so it's a pretty widespread problem. Thankfully, there are ways to manage your debt commitments and clear your balance so that you can benefit from better loan terms.
If you're looking to get out of debt, the Canadian Government has some useful advice about getting out of debt which is a good place to start.
Here are some simple ways that you can reduce your debt levels:
- Go through credit counselling to help you develop good financial habits
- Consolidate smaller loans into one, big loan.
- Stop creating new debt and close new credit accounts you've created
As you've probably been able to gather, the cost of your monthly car loan repayment is essentially dependant on how much of a financial risk lenders assume you to be. Factors like your credit history, credit score, down payment, duration of contract, interest rate, income and your level of debt can all affect how much you'll have to pay each month.