You have been planning to buy a car. In fact, you have been looking to buy one ever since you finished college. You have also accumulated money for down payment. And have been planning to take loan for the remaining amount. In this post, I will discuss a few things that you should keep in mind while taking car loans.
Make Sure the Car Loan EMI Fits Your Monthly Budget
It is easy to get excited at the prospect of owning your dream car on installments, which is a fraction of the actual price. However, do consider the affordability of the EMI before you take the plunge. You may have other EMIs running for home loans, education loan etc. Make sure you can afford car loan EMI before you take the loan.
Try to Borrow as Low as Possible. Go for as Short a Term as Possible
The more you borrow the more interest you pay over the loan term. The longer the term, greater the interest you pay over the loan term. Please note the cost of loan is same irrespective of loan amount or loan term. It is just the absolute interest amount that increases with loan amount and term. Car loans are typically available with loan tenor of 1 to 7 years.
I understand this is something you do not control beyond a point. Low loan amount means you have to pay more from your pocket initially (down payment). Additionally, shorter loan tenure means higher EMI burden.
Check Your CIBIL Score
Check your CIBIL score before applying for car loans. A poor score can lead to higher interest rate or even rejection of loan application. As per CIBIL website, 79% of the loans sanctioned are for individuals with a CIBIL score of greater than 750. Now CIBIL score check is a part of loan sanction process of many banks. A poor score can be due to a poor credit history. This is something you need to work upon. Additionally, sometimes you can have a poor score for no fault of yours. You may have opted for a credit card and never used it but it shows in default in your CIBIL report. Believe me, such things happen. If you notice such entries in your CIBIL report, contact the concerned bank and get things sorted out. You can purchase and access your CIBIL report online from CIBIL website.
Processing Fees — Lesser the Better
This is one area where you can try to negotiate with a bank. Depending upon the size of the loan, processing fee typically varies between Rs 2,000 – Rs 5,000. This may look like a small amount. However, car loans are small ticket loans too. For a hatchback car, if you are taking a loan of Rs 4-4.5 lacs, this will easily run up to 0.5-1% of the loan amount. Sometimes, during special offers or festive seasons, banks even waive off the processing charges. Do look out for such offers.
Do understand that car loans are short tenor loans. As the loan tenor goes down, the impact of interest rate goes down significantly. Let’s consider an example. Suppose you can avail a car loan for Rs 5 lacs for a five year tenor at following interest rates.
| Interest | 10% | 10.5% | 11% | 12% |
| Tenor | 60 | 60 | 60 | 60 |
| Amount | 500,000 | 500,000 | 500,000 | 500,000 |
| EMI | 10,624 | 10,747 | 10,871 | 11,122 |
| Total Interest Paid | 137,411 | 144,817 | 152,273 | 167,333 |
| Excess Interest over 10% | 7,406 | 14,861 | 29,922 |
You can see the difference in total interest paid between 10% and 10.5% p.a. is only Rs 123 per month or Rs 7,406 over the entire term. Now, if Bank A (with 10% p.a.) charges a processing fee of Rs 5,000 and Bank B (with 10.5% p.a. ) waives it off, the difference comes down to Rs 2,406. And I have not even considered service tax of 14% p.a.
Banks are quite smart playing such tricks. So, do not just focus on interest rates alone. Consider these other charges too.
Consider the Prepayment Charges
A car is a depreciating asset. This means the value of a car goes down as it gets older. Loans for a depreciating asset should be wound up as early as possible. Even if that means, you have to prepay the loan.
Car loans are typically available as fixed rate loans. And banks can charge prepayment penalty if you try to prepay a fixed rate loan. ICICI Bank charges 5% of the principal outstanding while HDFC Bank charges 3-5% depending upon when you decide to prepay. For now, SBI does not have any prepayment charges. Please understand there can be other sub-conditions before you can prepay. For instance, with HDFC Bank loan, you cannot prepay within first 12 months after taking the loan.
If I had taken a car loan and had extra cash available with me, I would look to prepay the car loan. Of course, my priority would be different if I had more expensive personal loans or credit card debt. So, if you are keen on closing on your car loan before it runs the full term, do look out for loan with the lowest prepayment penalty. Typically, public sector banks have relaxed terms for prepayment.
Look at the Offers from Car Dealers/Manufacturers in Entirety
Most car dealers have tie-ups with certain financiers and offer extremely attractive interest rates. Some car manufacturers can specifically set up NBFCs (Non-Banking Finance Companies) for the purpose. I have seen ads for zero down payment and even zero percent loan interest rate. Sometimes, this is a marketing strategy by new manufacturers to attract buyers. And these deals may actually be quite good. However, when you opt for such schemes, you may lose out on any car discounts. Just because car manufacturer is offering you such attractive deal (through its financing arm), it means there is a lot of scope for negotiation on the price.
As mentioned before, do not simply fall for low interest rate. Look at the complete picture.
If you are planning to take car loan through a dealer, negotiate price and loan deal separately. First, negotiate the price, accessories and insurance. Car dealers have a lot of leeway there. Once you reach a consensus price, talk to them about the loan. If you start negotiating on the entire package (price and loan together), you may not be able to get yourself the best deal.
Money Saving Tip — Most car dealers initially insist on purchasing car insurance only through them. However, when you put your foot down, they agree to let you purchase insurance on your own. Dealers get commission from insurance company on such policy sales. You can cut the middleman and purchase the policy online. You will easily save 25-30% on the insurance premium.
Conclusion
Do not go by interest rates alone. Do consider ancillary charges (such as processing fees, prepayment and pre-closure charges) before applying.
Here is my personal take on the need for car loans. If you stay in a city with decent public transport such as Mumbai, you can rely on public transport for some time to accumulate funds for car purchase and eliminate the need for car loan altogether. On the other hand, if you stay in cities such as Gurgaon with abysmal public transport, you may feel the need to purchase a car as soon as possible. Sometimes, your hand may be forced. However, do remember, purchase of a car is not just a financial decision. It is a matter of convenience too. If you have to take an elder in the family to a hospital on a regular basis, you may do well to purchase a car at the earliest. You are the best judge.
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