How do I choose the right car loan?

To help you choose a car loan, we’ve brought together four things that you might want to consider.

The most important thing to remember when considering car loans is that a car is a depreciating asset: most new cars lose value as soon as they leave the showroom, and used cars are even less likely to preserve their value. As such, it pays to be especially careful when considering available car loans: if you spread yourself too thin financially, there’s a chance that you’ll end up owning more money than the vehicle is worth. So, to help you make a sensible choice of car loan, we’ve brought together four things that it’s important to consider.

Figure out how much you can borrow

Make sure you know how much you can afford to borrow before committing to a loan. You should borrow only as much as you need for the vehicle, and never more than you can manage to pay back in regular instalments (plus interest) for the term of the loan.

You can use a car loan calculator to work out what your repayment obligations will be (including interest) and make sure to take into account any fees and charges. Once you’ve worked out what the repayments will be, consider them in the context of your other obligatory expenses, such as rent, food, and entertainment.

Consider what an appropriate loan term would be

The general rule when it comes to loans of all kinds is that the quicker you pay it off, the less you will pay overall because you’ll be able to reduce your exposure to interest payments. As such, a shorter loan may be preferable. The downside is that the monthly (or fortnightly) repayments are higher for short loans and decrease as the loan term increases. You may want to acquire the loan with the shortest term you can afford.

Fixed or variable interest rate?

If your car loan has a fixed interest rate, your interest rate remains the same over the term of the loan. This makes it possible to lock in a competitive interest rate and create a budget in advance, giving you confidence that you’ll be able to meet your debt obligations.

By contrast, a variable car loan offers an interest rate that is subject to change over time due to market fluctuations. As a result, you stand to benefit from lower interest payments overall if the rate declines over time. However, you could also end up paying more if the interest rate increases.

Secured or unsecured loan?

A secured loan is ‘backed up’ by a piece of collateral, such as a vehicle. On the one hand, this usually means that you can access lower interest rates and a higher borrowing limit. On the other hand, the lender may be entitled to take possession of your collateral if you default on the loan. Many car loans are secured: this means that you must use the loan to purchase a vehicle.

An unsecured loan involves no collateral, which can make it more accessible but tends also to result in slightly higher interest rates. This makes it more expensive over the lifetime of the loan.

This information does not constitute financial advice and you should consider whether it is appropriate to your circumstances before you act in reliance on it. Any opinions, forecasts or recommendations reflect the judgement and assumptions of RateSetter as at the date of publication and may later change without notice.