When people think of purchasing a used car, they assume they will be saving money, but interest rates can complicate matters. A new car can be financed with no money down and anywhere from 0-2 percent interest, while a used car will usually be financed with 6-7 percent, resulting in a used car possibly costing more per month than a new one. The first response is to ask how this makes any sense, but there are several factors that influence the cost.
There Is Less Risk
The finance manager knows exactly what the value of a new car is and how the value will depreciate because its current state is a sure fact. With a used car, its true resale value in the future depends on many variables and unforeseeable situations. The mileage and condition, for instance, could change drastically. The bank issuing the loan has more guarantee of making money from the loan on a new car and has a more solid view of the profit, so they can afford to charge less interest. With a used car, their investment in the vehicle is less secure and loan companies always charge higher rates in less reliable situations.
In Whose Interest Is It Anyway?
Typically, new cars are financed by the same people selling the car. The easier they make it for someone to purchase, the more likely there will be a sale. Their primary source of profit is the car. Used cars most often get financed by a bank with only the profit they can get from the loan to consider, so they can’t afford to offer the same rates.
Higher Payments, Shorter Term
Everyone expects the purchase of a new car to be a more enduring investment, so finance agreements are usually spaced out over a longer period of time. This results in the ability to offer smaller monthly costs. People think just the opposite about used cars, so the loan is expected to be paid off quicker with a higher rate each month.
Lower Credit Scores
Statistics show that used car buyers often have a lower credit score than people who purchase new cars. The average credit score for used car buyers runs about 660 compared to the average for new car buyers of 749. Low credit scores raise interest rates on all types of loans, because the bank financing the loan feels it is taking more of a risk. Since the lender feels the loan may never be completely repaid, it is in the bank’s interest to make more money from the deal in the short term.
Because a used car has significantly depreciated in value even if it isn’t very old, the bank financing the purchase stands to gain less profit than from a new car. They intend to make up the difference by charging higher interest rates.
Additional Costs Raise The Loan Amount
A new car purchase includes financial benefits, such as a warranty, that impact the loan price. If a used car buyer wants to purchase a warranty, this will raise the overall loan amount and the monthly rate.
High interest rates don’t make car buying impossible, but knowing about how car loan interest rates work can help buyers make the wisest decision. One should weigh out the advantages of both buying a new car and a used car in the short and long term and remember to shop around for prices. It is also wise to consider whether the cost of maintenance, lower monthly payments, ease of purchasing with lower credit, and other factors will fit the needs of different individuals.