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When it comes to financing a vehicle, selecting the appropriate loan term is a crucial decision to make. Whether you’re leaning towards a short or long car loan term, it’s important to understand what choosing these different options means for your budget and back pocket.
Longer-term car loans are better for those who value a lesser impact on their monthly budgets, as they come with lower repayments. However, although they'll cost more month-to-month, shorter loan terms can save you plenty of money on interest and fees, so they're often preferred by those looking to reduce the overall cost of their loan.
You can find out all about the implications of different car loan terms right here with Savvy to help you choose the best option for your needs!
Find out what term lengths your lender offers
Before committing to a car loan, it's essential to research and understand the term lengths offered by different lenders. Car loan terms typically range from one to seven years, although some lenders may offer higher minimum (two to three years) or lower maximum terms (five years).
By finding out what term lengths your lender offers, you can compare offers and choose the one that best aligns with your financial goals and circumstances. This will also allow you to narrow down your available options to those who can provide you with the loan term you’re after.
Think about your monthly budget
When deciding on a car loan term, it's crucial to consider your monthly budget and how much you can comfortably afford to repay each month. Shorter loan terms generally require higher monthly payments, while longer loan terms offer lower instalments.
By evaluating your monthly income and expenses, you can determine the maximum amount you can allocate towards your car loan payments without putting your budget under too much stress. From there, you can decide whether to go long, medium or short with your term.
Consider the overall cost of the loan
While focusing on monthly budget is important, it's equally essential to consider the overall cost of the loan. This includes not just the principal amount borrowed but also the interest and fees over the loan term. You can see a more detailed breakdown of how these costs work out in the following table for a $35,000 loan:
| Loan term | Monthly repayments | Total interest (12.00% p.a.) | Total cost of the loan |
|---|---|---|---|
|
7 years |
$617.85 |
$16,899.03 |
$51,899.03 |
|
5 years |
$778.56 |
$11,713.34 |
$46,713.34 |
|
3 years |
$1,162.50 |
$6,850.03 |
$41,850.03 |
Source: Savvy – What is an Average Interest Rate on a Car Loan?
Remember that your car depreciates
When considering the length of your car loan term, it's important to keep in mind that vehicles depreciate over time. As you make payments on your car loan, the value of your car will decrease, especially during the earlier years of ownership.
Opting for a shorter loan term can help you avoid negative equity on your loan, where you owe more on the car than it's worth. Bill Tsouvalas, Managing Director of Savvy, says it’s important to avoid negative equity on your car loan wherever possible.
“New cars drop in value by around 20% in their first year on average, but this may be more for certain models with higher depreciation rates”, he said.
“Negative equity can be caused by a range of factors, such as residual or balloon payments or not paying a deposit on your car loan.
“It’s particularly important if you’re looking to sell your car in the near future and can leave you to foot the bill for the shortfall, which could be thousands of dollars.”
By selecting a loan term that aligns more closely with the expected depreciation of the vehicle, you can minimise the risk of owing more on your car loan than it’s worth.
Keep an eye to the future
When choosing a car loan term, it's important to consider your future plans and how they may impact your finances. Car loans typically come with fixed interest, meaning the cost of your repayments will be locked in for the duration of your term.
For example, if you anticipate changes in your income, such as a promotion or career change, you may be able to afford higher monthly payments in the future. Conversely, if you expect significant expenses, such as buying a home or starting a family, you may prefer lower monthly payments to free up funds for other priorities.
By looking ahead and considering your future financial circumstances, you can choose a car loan term that offers the flexibility to adapt to changes in your life without causing undue financial strain.
Short vs long: which is better?
Ultimately, the decision between a short or long car loan term depends on your individual preferences, financial situation and priorities. As mentioned, shorter loan terms typically offer the advantage of lower overall interest costs and faster loan repayment, but they also come with higher monthly payments. They also allow you to clear your debt more quickly, potentially freeing up your availability to take out more loans sooner.
Longer terms, on the other hand, offer lower monthly payments to add greater flexibility for your budget but may result in higher total costs over the life of the loan. By carefully evaluating your options and considering the implications of each, you can choose the car loan term that best suits your needs and financial goals. You can also compare a range of car loan options with Savvy today.
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This guide provides general information and does not consider your individual needs, finances or objectives. We do not make any recommendation or suggestion about which product is best for you based on your specific situation and we do not compare all companies in the market, or all products offered by all companies. It’s always important to consider whether professional financial, legal or taxation advice is appropriate for you before choosing or purchasing a financial product.
The content on our website is produced by experts in the field of finance and reviewed as part of our editorial guidelines. We endeavour to keep all information across our site updated with accurate information.
Approval for car loans is always subject to our lender’s terms, conditions and qualification criteria. Lenders will undertake a credit check in line with responsible lending obligations to help determine whether you’re in a position to take on the loan you’re applying for.
The interest rate, comparison rate, fees and monthly repayments will depend on factors specific to your profile, such as your financial situation, as well others, such as the loan’s size and your chosen repayment term. Costs such as broker fees, redraw fees or early repayment fees, and cost savings such as fee waivers, aren’t included in the comparison rate but may influence the cost of the loan. Different terms, fees or other loan amounts may result in a different comparison rate.
