What Are The Benefits Of An Auto Loan?

An auto loan helps you buy a car by breaking down the cost into monthly payments. This way, you can get a better car, work on your credit score, and own the car eventually. But, be aware that these loans can lead to high monthly payments and some financial risks.

Always look at both sides of getting a loan. Think about leasing, using savings, or a personal loan too. Making the right choice is essential.

As Bankrate notes, auto loan debt grew by $12 billion in the last quarter of 2023. The average price of a new car hit $47,401 in January. This shows financing is often the only way to afford a car.

Auto loans let you buy a nicer car than you could have without financing. They may also boost your credit. But, remember, you’ll face big payments and the car will lose value over time. According to Quora, paying off the loan early can be smart. It helps you avoid paying extra in interest and could give you more financial freedom, especially if you keep the car for a long time.

Key Takeaways

Auto loans let you pay for a car over time, which can be easier on your budget.
You might be able to get a better car than you thought, especially if you couldn’t pay all at once.
They also help you build a good credit score by showing you can manage different types of payments.
But they have their downsides too, like big payments, financial risks, and the car’s value going down.
Before you decide, think about other ways to pay for a car to find what works best for you.

Spreading Out the Expense

An auto loan lets you pay for a vehicle purchase over time with monthly payments. You make smaller payments that are easier to handle. This is helpful in many ways.

Avoiding Draining Your Savings

It keeps your savings safe by not using them all at once for the car. This way, you keep your emergency fund. If you can’t pay the whole car price upfront, an auto loan is wise.

Smaller Ongoing Payments

These smaller ongoing payments are easier than one big cash payment. You can budget better for the car each month. It helps fit the car buying into your budget. Many find this a good way to get a car.

As Bankrate explains, an auto loan changes a big payment into smaller ones. This protects your savings. You can also buy the car with less cash upfront.

Some advice on Quora agrees. Once you complete the auto loan, you have more financial freedom. This adds to the good parts of using a loan.

Affording a Better Car

An auto loan lets you buy a better car than what you can pay for all at once. It divides the cost over time, fitting a premium model into your budget. This way, you can drive a nicer car that would be hard to afford otherwise.

Higher-End Vehicle Options

Auto loans open the door to fancy or luxury cars that cash can’t. They offer the chance to upgrade to a better car that meets your wants and needs. This is a big plus for those wanting to elevate their driving experience.

Budgeting Tip: 20% Rule

Experts warn against spending too much. They suggest keeping all car costs below 20% of your monthly income. This includes the loan, insurance, and gas. Sticking to this rule ensures your car is a joy, not a burden, to own.

Ownership at the End

One clear plus of an auto loan? You end up owning the car fully once the loan’s settled. But, leasing? It means you won’t own the car when the lease is up.

For auto loans, you make monthly repayments over 3 to 7 years. After, the car is all yours. This is great if you want to keep the car for a long time. Plus, when you own the car, you can do with it what you want. You could even sell it later and make back some money.

“With an auto loan, you’ll own the car after you pay off the loan,” explains Bankrate. This isn’t the case with leasing.

It’s highlighted that loans give “ownership at the end,” setting them apart from leases.

Building Credit History

Getting an auto loan helps build your credit history. How you pay it back, which is 35% of your FICO score, gets reported. Paying on time boosts your credit score during the loan.

Payment History Impact

An auto loan adds variety to your credit mix. This mix includes auto loans, credit cards, and other loans. It can make your credit score a little better. By handling an auto loan well, you make your credit profile stronger. This opens doors to better financing options later on.

Credit Mix Diversification

Bankrate points out that an auto loan can up your credit score. This is by paying on time and adding to your credit mix. It says an auto loan is key to “building your credit history.” It focuses on paying on time and adding variety to your credit types.

Potential Drawbacks

Auto loans can be helpful for many people. But, there are some things to watch out for, too.

One issue is the high monthly payments with a vehicle loan. The average monthly cost is around $738, according to Experian. This could be tough on your money. If you don’t keep up, your credit score may take a hit – and you could lose your car.

Expensive Monthly Payments

Getting an auto loan could also cause other money problems. If the loan is too big for your budget, it might make things harder. This is something to be careful about.

Risk of Damaging Finances

Vehicles lose their value quickly, too. This means the car may be worth less than what you owe. It’s called being “upside-down” on the loan.

Vehicle Depreciation

Auto loans have good sides. But, think about the bad parts, too. These include hefty monthly payments, impacts on your financial health, and quick vehicle value drops.

Auto Loan vs. Alternatives

Buying a car with an auto loan is common. But, there are other ways to pay for a car. These ways have their good and bad points.

Leasing a Vehicle

Leasing means you pay less each month than with a loan. But, when the lease ends, you don’t own the car. If you love driving new cars often, leasing might be for you. However, you won’t own the car or earn any equity.

Paying with Savings

Using savings can save you the interest an auto loan brings. Yet, it might take a big chunk out of your emergency fund. This works well for some if they have enough saved up. But, others may find it too expensive.

Using Credit Cards

Buying a car with a credit card is an option. However, credit cards often have high interest rates. If you fall behind on payments, it could harm your credit score.

Also read: What Are The Best Student Loans For Every Budget?

Tapping into 401(k)

Using your 401(k) for a car is not advised. It can hurt your retirement fund and lead you to pay more taxes. It’s best to keep your retirement savings untouched.

Personal Loans

Personal loans offer another choice. They might be flexible and have lower rates if your credit is good. But, you may not get the same benefits as with an auto loan. For example, you can’t use the car as security with personal loans.

FAQs

What is an auto loan?

An auto loan lets you buy a car by making monthly payments over time. It’s a financing method.

How do auto loans work?

You get the money to buy a car through the auto loan. Then, you pay back this loan in fixed monthly amounts over a set number of months (usually 36 to 84). This way, you can get a car without paying everything at once.

What are the benefits of an auto loan?

Auto loans help you buy a nicer car than you can purchase outright. They also help improve your credit score. By the time you finish paying, you fully own the car.

How can an auto loan help you afford a better car?

It makes more expensive cars affordable by splitting the cost into monthly payments. This lets you drive a car you wouldn’t be able to buy outright. It’s a way to get a nicer or premium car.

How do auto loans help build credit history?

Paying your auto loan on time boosts your credit score. Each timely payment reflects well on your credit report. It also diversifies the types of credit on your report, helping your overall credit health.

What are the potential drawbacks of auto loans?

There can be downsides to auto loans. These might include high monthly payments, financial stress if you can’t keep up with payments, and the car’s value dropping faster than you pay off the loan.

What are some alternatives to auto loans?

Other ways to get a car besides auto loans are leasing, paying in full with savings, using credit cards, taking from your 401(k), or a personal loan. Each choice brings its own benefits and downsides, so pick what works best for you.