Car loan amortization: What it is and how it can affect your auto loan

June 15, 2014, 8:47 am
Car loan amortization: What it is and how it can affect your auto loan

There are many types of auto loan available for buyers, each with their own advantages and disadvantages. So what should you look for in a loan? This article will explain the process and advantages and disadvantages of car loan amortization, one of the types of car loan available.

What is car loan amortization?
The term 'amortization' simply means constructing a loan whereby all of the repayments on that loan are of an equal amount. At the beginning of the repayment period a substantial part of each repayment will go towards reducing the interest of the loan, with a smaller amount paying off the principle (the actual cost of the car). As the repayments continue and more of the loan is paid off, the amount of each payment reserved for reducing the interest will decrease and more will go to toward paying off the principle. So, an amortized car loan will consist of equal payments throughout the term of the loan.

What are the benefits of an amortized car loan?
There are a number of benefits to buyers of amortized car loans, the principle one being that there is no 'payment shock' involved throughout the loan term. This means that due to the consistent nature of the loan repayments, there will be no fluctuation in amount throughout the loan term, which means borrowers can budget and expect the amount to pay each month. This opposed to interest-only loans where inflation or changes in the interest rate an drastically increase the amount repaid each month.

What are the negatives of amortized car loans?
Although the initial benefits of an amortised car loan are obvious, there are also some more obscure negatives associated with this type of loan. For smaller loan amounts, like those needed for the purchase of cars, amortized loans can sometimes confuse the buyer - although the monthly payments are consistent and look tempting, make sure you are clear on how many of these you will need to make and how much the overall loan is costing you. Amortized loans also do not build up as much equity as traditional loan repayments methods. As at the start of the loan you are primarily repaying interest, you are not building up as much equity in the item as you would normally - so on owning a car for years through an amortized loan you will not 'own' as much of the vehicle as it might seem.

How can I get an amortized car loan?
To apply for an amortized car loan, follow the same procedure as you would when applying for any auto finance deal. The structure of the repayment of your auto loan will be stipulated either by the dealer in a contract, or will be one of a number of options from which you can choose. It is a good idea to ask about amortized loans in the first instance, as these offer a consistent repayment plan which can be easier to manage. However, you should also consider the negatives involved and make sure that an amortized loan will offer the best deal for your financial situation and loan amount.