Five years (or 60 months) used to be the longest-term most lenders would offer on a car loan. Recently more lenders have been offering car loans with terms up to 84 months, or seven years. These loans have some attractive features, but they also have serious disadvantages that you should consider before signing on the dotted line.
What Can An 84-Month Loan Term Do for You?
A longer loan term provides one major advantage: lower monthly payments.
Imagine that you’re buying a $30,000 car with a $4,000 down payment and a 5.27% interest rate, which was the national average as of Jan. 2020.
- If your loan term is 36 months your monthly payment will be $782.40.
- If your loan term is 60 months your monthly payment will be $493.87.
- If your loan term is 84 months your monthly payment will be $370.79.
That lower monthly payment can make a car more affordable and leave you more money to pay other bills. It can also allow you to buy a more expensive car without exceeding your monthly payment budget, which appeals to many buyers.
That sounds like a great deal, but there’s another side to the story.
Your Interest Costs Will Go Up
If someone told you that you could get that $30,000 car for $361.50 a month instead of $773.42 a month, you might ask them “what’s the catch”.
The longer the term of your loan, the more interest you will pay, even with the same interest rate. Let’s look at the same loan we looked at above.
- If your loan term is 36 months your monthly payment will be $624.69. Your total interest payment will be $2,166.50.
- If your loan term is 60 months your monthly payment will be $391.50. Your total interest payment will be $3,632.90.
- If your loan term is 84 months your monthly payment will be $291.50. Your total interest payment will be $5,146.36.
You’re paying almost $3000 more in interest for that longer loan term. That’s why lenders are willing to offer those extended terms. They make more money from you on a longer-term loan.
That’s not all, though. Let’s look at that same scenario but imagine that your credit is a bit below average, and you’re paying 9% interest on your car loan.
- If your loan term is 36 months your monthly payment will be $826.79. Your total interest payment will be $3,764.44.
- If your loan term is 60 months your monthly payment will be $539.72. Your total interest payment will be $6,383.90.
- If your loan term is 84 months your monthly payment will be $418.32. Your total interest payment will be $9,138.88.
Now you’re looking at an interest payment difference of over $5000.00. That’s a key disadvantage to long-term car loans: you pay more money.
You Will Probably Be Underwater on your Loan
A car depreciates faster than almost any other asset you can buy. The value of your car drops 10% in the first month you own it. In the first year of ownership, most cars will lose up over 20% of their value. Each succeeding year will knock off another 10%.
If you have a longer loan term with small monthly payments, your car will lose value faster than you gain equity. You will owe more on your car than the car is worth. This is called being underwater or upside-down on your loan. If you make a low-down payment or no down payment the difference between the value of your car and what you owe may be magnified.
Being underwater on your car loan can hurt you in several ways.
- If you need to sell your car you may have to add money. The sale proceeds won’t pay off the loan, so the balance has to come from your pocket.
- If your car is stolen or totaled in an accident, insurance will only pay the value of the car. You may have to add money to pay the loan. You can purchase gap insurance to cover the difference, but it will add to your insurance cost.
- It may be impossible to refinance your loan. Lenders will not lend more than the value of the car.
You can avoid going underwater on your loan by saving for a significant down payment and taking the shortest-term loan that you can afford. If you take an 84-month loan with a low-down payment you may be underwater on your loan for much of its term.
Maintenance Costs May Add Up
If you’re considering an 84-month loan term, remember that by the end of that term your car will be seven years old.
Many new cars come with basic warranties of 4-5 years and drivetrain warranties of 5-6 years. If your loan term is greater than your warranty you may face significant maintenance costs before the loan is paid.
You’ll have to pay for those repairs as well as the car payments. Paying for repairs on an aging vehicle while you’re still paying off the loan that you took to buy it can be a painful experience.
When an 84-Month Loan Term Might Be a Good Idea
There are some circumstances in which an 84-month loan term might be worth considering.
- You really need a car and your monthly payment capacity is limited. If you can’t get to work without a car and you can only afford a small monthly payment, your options may be limited. A long-term loan could drop your payments to an affordable level, and the cost could be worth it.
- The money you save every month will be invested or used to pay off higher-interest debt. If the smaller payments on that loan allow you to pay off higher-interest credit card debt, they might be worth the extra cost. Be sure the money ends up used for that purpose!
Even in these cases, you may want to consider other options before committing yourself to an 84-month car loan.
Alternatives to an 84-Month Car Loan
An 84-month car loan can get you a sweet ride at an affordable monthly payment, but there are significant costs and risks involved. Here are some options to consider.
- Buy a cheaper car. A less expensive new car or even a late model used car could get you a monthly payment you can afford without the risks of a longer loan term.
- Lease a car. Some people have good reasons for wanting a luxury vehicle: if you’re in sales, for example, rolling up to a meeting in the right car can go a long way toward making the right impression. If you need more car than you can afford to buy, leasing a new or even a late model used car can get you what you need without the interest penalty and risks of a long-term car loan.
- Save for a larger down payment. A larger down payment will cut your monthly payments and reduce the risk of going underwater on your loan.
You can use more than one of these methods at once. Buying a cheaper car or leasing with a larger down payment can dramatically reduce your transportation costs.
If you have already taken out an 84-month car loan and you’re not sure it was a good idea, consider refinancing, especially if your credit has improved. Check your existing loan for prepayment penalties and review the figures carefully to be sure you’re getting a better deal.
An 84-month car loan can get you significantly lower monthly payments and enable you to buy a more expensive car without exceeding your monthly payment budget. An 84-month car loan can also force you to pay more in interest and expose you to significant risks.
Before signing on for an 84-month loan term, ask yourself why you’re doing it. If you have to have the car and it’s the only way you can afford it, the risks might be acceptable. If it’s just an excuse to buy more car than you can afford, you might want to think twice.