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Short Term Vs Long Term Car Loans

Short Term Vs Long Term Car Loans

With car prices at record highs, many Canadians are taking out longer car loans to lower their monthly payments. But is a short-term or long-term car loan better for your financial situation? This comprehensive guide examines the pros and cons of each to help you decide the best loan term for your needs.


A short-term auto loan generally ranges from 24 to 60 months, while a long-term loan can stretch from 60 to 84 months – or even longer in some cases. Shorter loans have higher monthly costs but pay off quicker and accrue less interest. Longer loans spread out payments over time, but charge more total interest.


This guide will cover the key factors to weigh when deciding between a short or long duration car loan. We’ll look at monthly costs, interest rates, loan calculators, break-even points, and provide tips to get the best rate. You’ll be able to make an informed decision on the ideal car loan term for your budget and financial goals after reading.



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Lower Monthly Payments With Long-Term Loans

In recent years, 72 and 84 month car loans have surged in popularity among Canadian buyers. The main appeal of these longer loan terms is the lower monthly payment amount compared to shorter loans of 3-5 years.

With new vehicle prices reaching record highs, longer 6 or 7 year loans can make payments more affordable and allow buyers to purchase more expensive vehicles that may have been out of reach with a traditional 60 month loan.

For example, on a $40,000 vehicle purchase with $5,000 down, a 60 month loan at 4% interest would have a monthly payment around $665. But stretching that same loan to 72 months at 4% drops the payment down to approximately $575.

While the lower monthly costs are attractive, longer loan terms do come with financial risks to consider. The main concern is becoming “upside down” on the loan, where the vehicle’s value drops below the remaining loan balance owed. This typically happens because cars depreciate rapidly in the first few years.

If you wanted to sell or trade in the vehicle before paying off the longer term loan, you may find yourself owing more than it’s worth at that point. This can make it very difficult to get out of the loan without having to come up with extra money to cover the difference.

 

Less Interest Paid With Short-Term Loans

One of the biggest advantages of short-term car loans is that you will pay significantly less interest over the life of the loan. Short-term loans are generally defined as 60 months or less. With a shorter repayment period, you are able to pay down the principal balance much faster, reducing the total interest charges.

For example, on a $30,000 loan at 4% interest, a 60 month term would have monthly payments of $571 and total interest paid of $2,262. But a 72 month term on the same loan would have payments of $480 and total interest of $3,119 – nearly $900 more. The longer the term, the more interest you pay overall.

The downside is that the monthly payments on short-term loans are considerably higher. But if you can afford the higher monthly cost, the long term interest savings may make it worthwhile. The faster you can pay off the principal, the less interest you pay over the full loan.

 

The Break-Even Point on Interest Costs

When deciding between a short-term and long-term auto loan, it’s important to understand the concept of a “break-even” point on interest paid. This refers to the loan term length where total interest paid on a short-term loan equals a long-term loan, despite the lower monthly payments.

For example, let’s compare a $25,000 auto loan at 5% interest for 36 months vs 60 months:

 

  • 36 month loan: Monthly payment of $743, total interest paid = $1,548
  • 60 month loan: Monthly payment of $468, total interest paid = $2,080

 

In this case, the total interest paid “breaks even” at around 48 months. A 48 month loan payment would be $571 with total interest of $1,548. Even though the 60 month term has lower monthly payments, beyond 48 months the total interest costs exceed the short 36 month term.

The exact break-even point depends on the loan amount, interest rate, and down payment. But in most cases, loans longer than 48-60 months pass the break-even point where it makes financial sense to choose a short-term loan instead.

Running the numbers for your particular auto loan situation can reveal the ideal term length where you minimize total interest paid over time. Auto loan calculators online can quickly show interest costs and payments for any loan term scenario.

 

Other Key Factors to Consider

When deciding between a short-term or long-term auto loan, there are other important factors to weigh beyond just the monthly payments and total interest costs.

One key consideration is your income stability and budget over the full loan term. While lower monthly payments allow you to purchase a more expensive vehicle, you need to ensure you can reliably make those payments for the entire duration of the loan. Income interruptions or budget changes down the road could make those payments unaffordable.

Longer-term loans also tend to have higher interest rates compared to short-term loans. Lenders consider longer loans to be higher risk, so they offset that by charging a higher rate. Even an interest rate that is only 1% higher can add significant costs over a 6 or 7 year loan period.

Shorter-term loans reduce the risk of being “upside down” on your loan – owing more than the vehicle is worth. With rapid depreciation in the first few years, longer loans increase the chance you could end up underwater if you needed to sell or trade in the vehicle. Shorter loans help limit this negative equity risk.

 

Use an Auto Loan Calculator

Auto loan calculators are a useful tool to model out different loan scenarios. By inputting a few key variables, you can see the impact of loan term length on both monthly payments and total interest costs.

When using an auto loan calculator, start by inputting details like the vehicle price, down payment, trade-in value, sales tax, fees, and APR interest rate. Then you can customize the loan term length – trying out options like 36, 48, 60, 72, or 84 months.

As you adjust the length of the loan term, you’ll see the monthly payment automatically recalculate. Shorter loans lead to higher monthly costs, while longer loans have lower payments. However, the interest rate and total interest paid over the full loan term also changes dramatically.

A 36 month loan often has total interest charges of just a few thousand dollars. But when you extend to a 72 or 84 month term, the interest expenses can rapidly climb into five figures. The calculator makes it easy to quantify how the longer term saves on monthly costs but increases the total finance charges.

Running through different scenarios provides visibility on the overall costs. This allows you to find the “sweet spot” loan term that balances affordable monthly payments and minimizing interest expenses over time. Auto loan calculators give you the facts you need to make an informed decision.

 

Getting the Best Car Loan Rate

One of the keys to minimizing interest costs on your auto loan is to secure the lowest rate possible. Here are some tips to get the most competitive rate when financing your vehicle purchase:

 

Compare Rates Across Multiple Lenders

Don’t just accept the interest rate offered by the dealership’s preferred lender. Take the time to check rates from banks, credit unions, and online lenders. Rates can vary significantly, so shopping around is crucial.

 

Check If You Qualify for Special Discounts

Many lenders offer discounted rates for current customers or those with relationships through work or associations. Ask about relationship pricing and other ways to lower your rate.

 

Improve Your Credit Score

Your credit score is one of the biggest factors in determining your interest rate. Work on improving your credit score in the months before applying for an auto loan to qualify for the lowest rates. Pay down balances, correct errors on your credit report, and avoid new credit inquiries.

Using these strategies can help you secure the most competitive interest rate and save substantially on financing costs over the life of your car loan.

 

Conclusion and Final Tips

There is no definitive “best” car loan term that applies to everyone. The right loan length depends on your unique financial situation and priorities.

Be realistic about the monthly payment you can manage over the loan term. Going for the longest term possible to get the lowest payment may stretch your budget too thin over those extra years.

If possible, make extra principal payments on a monthly or lump sum basis to pay down your auto loan faster. This reduces the total interest paid over the full loan duration.

Carefully weigh the pros and cons and run the numbers to find the optimal loan term for your needs. The loan calculator can model different scenarios to help choose the right timeframe.

While longer loans are tempting for the lower monthly costs, the shorter term is generally the smarter way to go if you can afford the higher payments. But everyone’s financial situation is different.

Use this guide to make an informed decision on the car loan term that provides the best balance of affordability, savings, and risk management for your individual circumstances.

 

Pros of Short Term Car Loans

Shorter term car loans, usually 60 months or less, have some significant advantages that make them the better option for many buyers.

 

Less Interest Paid

The most compelling reason to choose a short term is that you pay much less interest. Since the loan is paid off more quickly, the total interest charges are substantially lower compared to long term financing.

For example, a $30,000 loan at 4% interest will accrue approximately $1,200 in interest on a 3 year term. But on a 6 year term, the interest jumps to around $4,000. That’s over 3 times more interest paid simply by doubling the length.

Shorter loans save thousands in interest expenses over the long run.

 

Faster to Build Equity

With short term financing, you pay down the principal balance quicker. This allows you to build equity in the vehicle faster since more of your payments go towards the principal instead of interest.

In the early years of a long term loan, the payments are almost entirely interest. But with a 36 or 48 month loan, you make a bigger dent in the principal balance each month.

Getting out of negative equity sooner gives you more options if you want to trade in or sell the car down the road.

 

Cons of Short Term Car Loans

While short term car loans have some clear advantages, they also come with some potential drawbacks to consider:

 

Much higher monthly payments – The biggest downside of a short term auto loan is that it will require a significantly higher monthly payment. For example, a $30,000 5-year loan at 4% interest would have a monthly payment around $571. The same loan over 6 years would be approximately $480 a month. That’s a difference of nearly $100 per month, which can be challenging for some budgets.

Shorter loans mean you are paying off the principal more quickly, so the monthly amount has to be higher to achieve that faster pay down. Even an extra year or two on the term can make payments much more affordable. For buyers on a tight budget, a short term loan may not be realistic.

 

May not be affordable for all budgets – Because short loan terms require large monthly payments, they simply are not feasible for some borrowers’ incomes and expenses. Lower income buyers or those with other large payments like rent or student loans may struggle to fit a large car payment into their budget. A short term loan runs the risk of being unaffordable and jeopardizing other financial priorities.

 

Pros of Long Term Car Loans

One of the biggest advantages of long term car loans is the lower monthly payment. Stretching out the loan over 6 or 7 years dramatically reduces the amount you need to pay each month compared to a 3 or 4 year loan. This makes the vehicle more affordable on a month-to-month basis.

For example, on a $30,000 car loan at 5% interest, a 4 year loan would have monthly payments around $710. But a 6 year loan on the same amount would only be around $495 per month. That’s a difference of over $200 less you need to pay each month.

The lower monthly costs allow buyers to purchase more expensive vehicles that they may not otherwise be able to afford with higher monthly payments. If your budget is tight, lowering the monthly burden can mean the difference between qualifying for a loan or not.

Long term loans essentially give you the ability to drive a nicer or more feature-packed vehicle than you could get with short term financing. For many buyers, this lower monthly outlay makes the overall purchase possible in the first place.

 

Cons of Long Term Car Loans

While lower monthly payments may seem attractive, long term car loans come with some significant drawbacks to be aware of.

The most notable downside is that you end up paying much more interest over the full loan term. Because the loan is stretched out over 6-7 years rather than 3-5 years, the total interest charges add up. Even a small interest rate difference gets compounded over those extra years, increasing the total finance costs substantially.

For example, a $30,000 car loan at 4% interest over 60 months costs approximately $2,300 in total interest. But stretch that same loan out to 72 months, and the interest paid jumps to around $3,200. That’s nearly $1,000 in additional interest costs just from extending the term a bit longer.

Longer loans also leave you at greater risk of being “upside down” on the loan – meaning you owe more than the car is worth. This is because vehicles depreciate rapidly in the first few years. If you total the car or need to sell it after 3-4 years, you may find you still owe thousands more than you can get for it.

With a shorter 3-4 year loan, you build equity in the vehicle much quicker and avoid this negative equity situation. But on a 6-7 year term, you stay underwater for a longer period where you can end up owing more than it’s worth.

 

When Short Term Loans Make Sense

Shorter term auto loans typically make the most sense when you have a budget that can accommodate the higher monthly payments. With a 36 or 48 month loan, you’ll be paying more each month, but significantly less interest over the full loan term.

Short term loans are best for borrowers who want to pay down the principal quickly and own the vehicle free and clear sooner. You’ll build equity faster with higher payments going straight to reducing the loan balance.

Additionally, short term loans carry less risk of being upside down on the loan, where you owe more than the car is worth. With rapid principal paydown, you reduce the chance the loan balance exceeds the vehicle’s depreciating value.

Borrowers with large down payments and excellent credit will get the lowest rates on short term loans. You can make the higher payments more affordable. Short terms also provide peace of mind of owning your vehicle quicker.

 

When Long Term Loans Make Sense

Longer loan terms can make the most sense when you need to lower your monthly payments. With new vehicle prices at record highs, many buyers simply can’t afford the monthly payments on a short 36 or 48 month loan. Opting for a longer 60, 72, or 84 month term spreads payments out over time, making each one more affordable.

This strategy helps if you’re on a tight budget but need a reliable vehicle. While you pay more interest in the long run, the lower monthly costs allow you to buy the car you need.

First time buyers may also benefit from a longer term to build their credit. Those with limited or poor credit often can’t qualify for short loans with the lowest rates. A longer term increases the chances of approval and is easier to manage as you establish a credit history.

Repairing past credit problems can be another scenario where a longer term makes sense. After events like bankruptcy or vehicle repossession, buyers need time to rebuild their score. A longer loan gives flexibility to get a car with bad credit, as long as you focus on improving your score going forward.

The lower monthly payments from a longer loan provide breathing room to get back on your feet. But it’s essential to make payments on time and keep the loan in good standing. This will help begin reestablishing positive credit.

 

Maximize Savings With Shorter Terms

While a shorter loan term means higher monthly payments, it can save substantially on interest charges over the life of the loan. Here are some tips to maximize interest savings with a shorter auto loan term:

 

  • Make extra principal payments – Any extra amounts paid directly to principal will reduce the loan faster. Even an extra $50-100 per month can make a difference.
  • Refinance later to shorter term – If you need to start with a longer term to get approved or lower initial payments, you can refinance to a shorter term later once your finances improve.
  • Take longest term you can manage – Don’t go shorter than you can afford just to save on interest. Manageable payments should be the priority. But do take the shortest term possible without overextending your budget.

 

While longer loans are tempting for the lower payments, being disciplined and paying off the loan as fast as comfortably possible will save a lot in interest charges over the years.

 

Minimize Risks of Longer Terms

While long auto loan terms come with inherent risks, there are a few ways to help minimize them if a longer term better fits your budget:

 

  • Put down a larger down payment – The more you put down upfront, the less you have to finance. This lowers the chance of negative equity if the car depreciates faster than expected.
  • Get gap insurance – Gap insurance helps cover the difference between what you owe and the car’s value if it gets totaled. This protects you from owing more than it’s worth.
  • Pay extra principal – Making an extra principal payment each month knocks down the balance faster. Even $20-50 extra can make a difference over the long run.
  • Refinance later – If your credit improves, you may qualify for better rates by refinancing the loan. This can lower costs if rates have dropped.

 

While no strategy fully eliminates risks, being proactive gives you more protection and equity should issues arise down the road.

 

Use Loan Calculator to Find Best Term

The best way to determine the optimal car loan term for your situation is to use an auto loan calculator. By inputting different loan amounts, interest rates, down payments, and terms, you can model out multiple scenarios to see the total interest paid and monthly payments.

Auto loan calculators allow you to find the “break-even” point where longer term loans make financial sense for your budget. You may find that a 60-month loan costs only slightly more in total interest than a 48-month loan. The lower monthly payment on the 60-month loan may be worth the small extra interest charges.

The calculator also shows the risks of very long 72-84 month loans. The total interest paid is significantly higher. Try different down payment amounts as well – you may be able to get a reasonable monthly payment on a shorter term by putting more money down upfront.

Ultimately the calculator gives you the data to make an informed decision on the shortest term loan you can realistically manage within your budget. This will minimize total interest paid over time. Input your actual financial details for the most accurate projections.

 

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Questions About Short Term & Long Term Car Loans

In general, short-term car loans are better in Canada because you’ll pay less interest over the lifetime of the loan. With a shorter loan term like 36 or 48 months, your monthly payments will be higher but you’ll pay less in total interest charges. Longer loans like 72 or 84 months have lower monthly payments but significantly higher total interest costs. The longer you take to pay off the loan, the more interest fees you pay to the lender. However, if you need lower payments to afford the car, a longer term may be your only option. Evaluate the total loan cost and choose the shortest term you can manage.



Pros:

 

– Pay less interest over the loan term

– Become equity positive faster

– Own the car sooner

– Pay off loan faster

– Lower credit risk

 

Cons:

 

– Higher monthly payments

– May not fit budget for some buyers

– Need strong credit for approval

Pros:

 

– Lower monthly payments

– Easier to qualify for the loan

– Can buy more expensive vehicles

 

Cons:

 

– Pay significantly more interest

– Higher risk of negative equity

– More likely to default on loan

– Spend much longer paying off debt

 

According to consumer research, the average length of a car loan in Canada is between 60 to 72 months. However, experts typically recommend loans no longer than 60 months for new vehicles and 36 months for used vehicles. This helps buyers save on interest charges and pay off their loan faster.

Some of the major risks of very long 72-84 month car loans in Canada include:

 

– Paying thousands more in interest fees over the loan term

– Much higher risk of negative equity or being “upside down” on loan

– More likely to default if hit with job loss or financial hardship

– Vehicle may require expensive repairs/maintenance in later years

– Outliving the useful lifespan of the vehicle while still making payments

 

Because of these risks, Canadian experts caution buyers about taking out loans longer than 60 months. Carefully consider if an extended term is absolutely necessary.

Here are some tips to get the lowest interest rate possible on a car loan in Canada:

 

– Have a credit score over 720

– Put at least 20% down payment

– Choose a payment term under 60 months

– Buy a fuel efficient, low-cost vehicle

– Shop around with multiple lenders

– Consider manufacturer financing offers

– Enroll in auto-pay from chequing account

– Apply with a co-signer if necessary

 

Having excellent credit and a large down payment shows lenders you are lower risk. Comparing loan offers from banks, dealerships and third parties can help you save the most money.

To qualify for the very best car loan interest rates in Canada, you typically need a credit score of at least 720 or higher. Anything under 660 is considered subprime and will have much higher interest rates. Here’s the approximate rate ranges:

 

– Over 800: 2-4%

– 720-799: 4-7%

– 680-719: 7-12%

– 650-679: 10-15%

– Under 650: 15%+

 

So focus on improving your credit score over 720 before applying for an auto loan. Pay all bills on time, lower credit utilization, avoid new credit inquiries. This will set you up for the ideal rate.

Yes, making a down payment on a car loan in Canada can save you substantial money on interest charges. Even a 10-20% down payment leads to better loan terms and interest rates from lenders.

 

Benefits include:

 

– Shows lenders you are financially committed

– Qualify for lower interest rates

– Pay less in interest fees over the loan term

– Shorten loan length & pay off principal faster

– Build equity in your vehicle right away

– Protect against depreciation and negative equity

 

Aim to put down as much as you can reasonably afford, at minimum 10-15% if possible. This gives you the most savings on a Canadian car loan.



Here are some top strategies to pay off a car loan ahead of schedule in Canada:

 

– Enroll in bi-weekly accelerated payments instead of monthly

– Pay half of your annual car insurance premium every 6 months

– Make an extra principal payment each year by increasing monthly auto-pay

– Put any monetary gifts, tax refunds or bonuses towards the principal

– Set up a separate high-interest savings account to make lump sum payments

– Refinance your loan to a shorter term length when credit improves

– Sell assets or downsize expenses to free up cash for extra payments

 

Following a few of these tips can help Canadian drivers become car loan free years earlier.



In Canada, there are no penalties or fees for paying off your car loan ahead of schedule. When you pay more than your monthly amount due, the extra goes straight to the principal loan balance. This reduces your overall interest paid over the remainder of the loan.

 

Any extra payments also help you build equity faster in the vehicle. And you’ll shorten the loan term remaining. Just contact the lender to confirm the payoff amount and instructions when you’re ready to pay it off fully. Then celebrate becoming free of auto loan debt!

If you find yourself in an upside down or negative equity auto loan in Canada, here are some options to consider:

 

  1. Keep paying down the loan – Continue making regular payments plus any extra you can afford to pay down principal faster. Avoid further depreciation.

 

  1. Refinance at a lower rate – See if you qualify to refinance to a lower interest rate to pay less in fees. Needs improved credit score.

 

  1. Trade it in for lower loan balance – You may qualify by trading it in towards another vehicle with positive equity.

 

  1. Sell the car privately – Selling instead of trading in may get you more money to put towards remaining loan balance.

 

  1. Voluntary repossession – Surrender the vehicle but damages your credit rating significantly.

 

If possible, focus on paying down the loan as fast as possible. Protect your credit score while getting out of negative equity.

When applying for Canadian car loan financing, most lenders require documentation that verifies your:

 

– Income – Recent pay stubs, T4, tax returns, pension info

 

– Employment – Letter of employment, job history

 

– Identity – Driver’s license, passport, SIN card

 

– Address – Utility bills, bank/card statements

 

– Down payment – Bank statements, investment/asset records

 

– Insurance – Proof of valid car insurance coverage

 

Having these documents ready when you apply for a car loan improves chances of fast approval. Income and down payment verification is key. Fax or securely upload documents to lender.



The top options for getting a car loan from a reputable lender in Canada include:

 

– Major banks – TD Canada Trust, RBC, Scotiabank, CIBC, BMO

– Credit unions – Local branches often offer best rates

– Captive financing – Brand dealership financing such as Ford Credit Canada

– Online lenders – Fairstone Financial, CarsFast.ca, Canada Drives

 

Banks typically offer some of the lowest interest rates to borrowers with good credit (720+ score). Compare loan quotes from multiple sources. Credit unions and online lenders are also competitive options to consider for a car loan.

Dealership financing can sometimes get you a great low rate on par with banks. But it’s wise to also check with banks and credit unions directly for comparison. Dealers make profit from loans so may not always offer you the most competitive rate possible.

 

Getting pre-approved directly through your bank before heading to the dealership also gives you stronger negotiating power. Then if the dealer can beat the rate, you have the flexibility to go with either lender.

 

Bottom line – always compare options. Multiple loan quotes lead to the best rate.



When taking out a car loan from an auto finance company or bank in Canada, you can expect to pay the following common fees:

 

– Interest charges – Based on your loan amount, term length, and credit rating

 

– Processing/documentation fee – One-time, $50 to $500

 

– Lien registration – $20 to $60 to register vehicle ownership

 

– Late payment fees – Typically $30 to $80 per late payment

 

– Prepayment penalties – Most loans allow paying off early with no penalties

 

Read all loan terms carefully and factor interest costs plus fees into your auto affordability budget. Ask lenders to explain every charge. Select the most transparent loan option.



Follow this basic process when applying for car loan financing approval in Canada:

 

  1. Check your credit score and report for accuracy

 

  1. Research current auto loan interest rates and terms

 

  1. Determine maximum monthly payment you can afford

 

  1. Calculate total loan amount within your budget

 

  1. Get pre-approved financing from bank or credit union

 

  1. Test drive vehicles that fall within approved loan amount

 

  1. Negotiate best price on selected new or used car

 

  1. Submit final loan application with income/identity verification

 

  1. Wait for approval and review all loan closing costs

 

  1. Review and sign loan agreement + take delivery!

 

Getting pre-approved early on gives you an advantage in knowing what you can afford. Submit all required documents for final loan approval.



If you have bad credit, here are some tips to improve your score so you can eventually qualify for Canadian car loan financing:

 

– Review credit reports and dispute any errors with bureaus

– Pay all utility and credit card bills on time each month

– Pay down credit card balances to lower utilization ratio

– Avoid applying for new credit needlessly

– Enroll in credit monitoring to track score progress

– Become an authorized user on a spouse or family member’s credit account in good standing

– Take out a secured credit card or secured loan to demonstrate responsible usage

 

Aim for at least 12 months of positive payment history while minimizing new debt. Most auto lenders require a minimum score between 650 to 700 for approval.

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