The Truth About 0% Financing Auto Loans

White car atop zero percent credit signSince the market crash in 2008, auto dealers have taken a substantial hit in the realm of new car sales. In an effort to incentivize buyers in an otherwise stagnant market, the finance arms in partnership with key dealerships created the 0% financing deal. For some buyers, a 0% interest rate is enough to get them into a car salesman’s office, but for others, the financing offer seems too good to be true. Before diving into your next auto purchase, consider the advantages – and disadvantages – of this common financing offer.

What is 0%?

In the simplest terms, a 0% interest rate car loan is one in which you do not pay interest on money borrowed from the auto finance company or dealership. Instead of making a profit on new auto loans with interest rates ranging from 2% for highly qualified borrowers to nearly 9% for those with less than perfect credit history, finance companies provide buyers an opportunity to pay the same amount as a cash buyer. The difference is that payments are broken up and repaid on a monthly basis. The majority of 0% car loans are funded directly from the dealership, not the underlying finance arm of a major auto brand. For a dealership, the amount of money earned on the sale of a car is the same under a 0% loan as it is with a cash deal, but the earnings are simply spread out over time.

Advantages to 0% Financing

The most obvious benefit to accepting a 0% car loan offer is the ability to repay the purchase price of the car over time without the additional cost of interest. Let’s look at an example. If you were purchasing a $25,000 vehicle new off the lot, and were approved for a five-year, or 60-month, loan with a 5% interest rate, your monthly payments would equal roughly $472. With that loan offer, your total interest payments over the course of the loan would equal $3,307 in addition to the purchase price, barring no additional principal payments. Conversely, the same $25,000 loan free of interest would require a $417 monthly payment, and of course, no interest expenses. The cost savings in a 0% interest car loan can be substantial for the right buyer.

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Drawbacks to 0% financing

While 0% loan offers are a smart way to finance a vehicle purchase, they are not suitable nor are they available to every buyer. First, if you have less than exemplary credit, a no-interest loan is not an option. Because dealerships and finance companies are not making an additional profit on a 0% loan, they want to protect their default risk by only providing this offer to highly qualified borrowers. Additionally, 0% loans may only be available in reduced repayment terms, meaning instead of a 60-month loan, you may only have the option of a 36-month term. A short duration of repayment results in a higher monthly obligation, which may not be appropriate for borrowers with a tight budget. Finally, 0% car loans are often restricted to certain new models with no customization, creating the ability to negotiation on purchase price an uphill battle.

As a car buyer, it is important to understand how 0% interest rate loans are both beneficial and restrictive. If you cannot qualify based on credit history, do not have the monthly budget to afford high payments or want additional options on your new vehicle, chances are, a 0% loan is not in your future. However, in the current low interest rate market, financing a vehicle purchase does not have to be an expensive endeavor. To find the best auto loan rates for your situation, it is beneficial to compare bank and credit union offers with what a dealership or auto finance company provides. You’ll often experience a degree of savings by doing your research and obtaining financing before heading to the dealership.

Posted on November 6, 2015 by in Automobiles

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