The trick to saving money on your high interest rate car loan
The trick to saving money on your high interest rate car loan is not hard. It involves some effort and a bit of planing but everyone can do it.
Most people with bad credit assume that high interest is the price of doing business, and for most, it is. But, there is a little used method to reducing the interest rate on your car loan. This will reduce the interest you pay dramatically. The best part is that it takes very little effort on your part.
So what’s the trick?
In the mortgage industry, there is a well known savings strategy to pay your monthly payment every two weeks instead of once a month. This adds a full payment to your house payment every year. This is the trick to saving money on your high interest rate car loan.
They suggest this because most loans are simple interest. This means you only pay interest on the balance of the loan principal. The quicker you can reduce this interest, the lower amount you end up paying in total.
Another dirty secret is that interest is front loaded. This means that the bank gets the majority of their profit (the interest) before you start to really get into principal. Paying more towards the principal than the minimum they ask for greatly adjusts the interest you pay.
How does this help me?
This logic can be applied to your car loan as well. Some will argue that it is much more effective because of the small amount of the loan (compared to a house) and the shorter terms.
For example, if you finance $10,000 over 60 months at 22.95% interest, you would make a payment of $281.62. Over the term of your loan you would pay $16,897.20, a full $6,897.20 over the amount you paid for the car. That’s dangerously close to double!
But, let’s say you round that payment to $300 even and apply that extra to principal. This saves you almost $800 and pays off your car 6 months early!
What if we get crazy and kick our latte addiction and make a $350 a month payment? This saves you $2209 and pays off the loan in 3 1/2 years instead of 5! That’s the equivalent of a 7%-8% interest rate reduction.
Here is a great calculator we found online to show you your exact savings. You can change the extra monthly payment and see the impact!
“An extra payment towards principal should be done from the very first payment for customers with less than stellar credit,” says Tina, the owner of Queen Motorcars.
Why do the banks allow this?
Why does the bank allow you to exploit a loophole like this? Well, in a banker’s paradise, they wouldn’t.
Simple interest contracts are the standard in almost every state in the country. These contracts are what all the individual states decided was the most fair to both parties. These contracts give consumers and lenders certain rights that the other has to honor. Usually these contracts are dramatically in the bank’s favor. This is one of the cases that it is not.
There is a reason the banks give you payment books, request auto pay, and try and make the payment process as simple as possible. It’s true that auto-payments make it less likely for a customer with credit issues to make a late payment, but it’s not the only reason. Few banks are transparent enough to give you this option automatically. In most cases you are going to be required to call and make this extra payment.
“The customer needs to make sure they are applying the extra payment towards the principal. If you’re not specific, you could be just making a portion of the next months payment,” Tina said during a phone interview. “This is not something the bank will just do, it’s not in their interest,” she added.
How to make the extra payment?
Making the extra payment is simple, but not as simple as making the payment the banks are requesting you to pay.
You will probably need to call your bank. There are only a few banks we are aware of that give this option on their website. Even fewer that allow that to be automatic every month It’s this extra step that stops most consumers from making this phone call.
It may be a small amount of extra work, but making the extra payments toward your car not only pays it off earlier but can save you thousands of dollars in unnecessary finance charges.