You’ve probably heard the term “car loan” before. But do you really know how do car loans work? A car loan is a type of financing that allows you to get the car of your dreams, with only one catch: You have to pay it back over time. And while that might sound pretty simple, there are actually some key terms you should be aware of before taking out a car loan. In this post, they’ll dive into four key terms used in car loans and explain what each one means.
You should know that a down payment is the amount of money you pay upfront to the lender at the time of the loan. It’s usually a percentage of the loan amount. The more you put down, the less interest you have to pay over time and, thus, save money. “A down payment is the money a buyer pays on the spot to reduce total financing payment,” as Lantern and SoFi experts say.
A fixed-rate loan is the most common type of car loan, and you can expect to pay interest on it for the entire term. It’s a set amount, so you won’t have unexpected increases as with a floating rate. A fixed rate will be lower than a floating rate (which changes with prime) but higher than an introductory or promotional rate, which usually starts low and increases over time.
If you plan to keep your car for several years, a fixed-rate car loan is often better because it will save you money in the long run.
The principal amount is the total amount of money borrowed. It’s also the amount that you must pay back when you make payments each month. Remember to calculate your interest rate into this number to figure out how much money you will actually be paying over time.
An EMI is your monthly payment. It’s calculated by dividing the loan amount by the number of months in your loan tenure. For example, if you borrowed ₹ 4 lakhs and had a tenure of 36 months, your monthly EMI would be ₹ 1 lakh.
The lower your EMIs are, the less interest you pay over time—and that’s a good thing! Generally speaking:
- Lower EMIs mean lower monthly payments.
- Lower EMIs also mean higher overall interest paid.
- Interest rate: This is the amount of interest charged on a loan.
- Processing fee: Charged to cover administrative costs of processing your application, such as notary fees and courier charges.
- Insurance charge: The insurance premium payable by you during the tenure of your vehicle loan will be included as part of your monthly installment amount.
- Penalty charge: If you make late payments or fail to pay off your debt, you will have to pay a penalty fee along with the regular interest on it.
This list helps you understand what car loans are all about. Remember that car loans can be complicated, but there’s no need to get stressed about it. So even if you don’t know much about financing vehicles, the goal here is to ensure that by the end of this post, you feel more confident in handling a loan application or negotiating with a dealer when buying one!
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