car insurance, savings a car, Image: Stefan Rodriguez via Unsplash
Are you getting ready to buy a new ride? Whether you’re buying your first car or upgrading to a new vehicle, chances are that you’ll need to get financing to pay for your next automotive adventure.
Whether you're eyeing a sleek sedan, a rugged 4X4, or a zippy hatchback, getting the right financing in place can make a world of difference to your car ownership experience.
Ernest North, co-founder of Naked, the fully digital insurance platform, navigates through some of the key things to think about before sealing the deal on your next set of wheels.
Once you’ve decided on a car, you typically have the choice of getting a loan directly from a bankor working with the vehicle dealer’s in-house financing arm to assist with the process. It’s a good idea to get multiple quotes before deciding.
Your bank might offer you a more attractive deal based on your existing relationship, and you can even ask for a pre-approved loan before choosing a car you want to buy.
Dealerships often offer structured and attractive pre-arranged deals for repaying the car. These deals come with standard terms, such as fixed interest rates and deposit amounts, and are usually available only for new cars.
Remember not to be persuaded to buy a car you can't really afford. The credit underwriting process will be similar, whichever route you choose.
Car loans may be structured in several different ways and each has its own pros and cons.
•In a straightforward instalment-sale agreement, you will pay for the vehicle in monthly instalments (including interest) over a fixed term that typically ranges from 12 months to 72 months.
Some even go up to 96 months. You’ll only technically own the car when you’ve made the last payment.
•In an instalment sale with a balloon payment, you’ll pay for the car in equal instalments every month until the last payment.
Your last payment will be a bigger ‘balloon’ payment, which could be as much as a third of the purchase price. This is something you’ll agree to upfront when you’re entering into a deal.
•In a lease agreement, you will pay monthly instalments for the use of the car. At the end of the lease, you can usually choose to return the car, buy it or get a new lease agreement.
The contract is usually subject to mileage limitations and other care requirements. If the car is not in good condition, you will pay a penalty at the end.
A significant chunk of your monthly repayment will be due to the interest rate on your loan. If you finance a R300,000 car with a 10% deposit over five years at a 13% interest rate, you’ll pay nearly R100,000 in interest over the full term.
As this illustrates, it makes sense to reduce your interest repayments in any way you can. Increasing your deposit and choosing a slightly lower-priced vehicle can save you a fortune in interest payments over the span of a car loan. Depending on the loan agreement, your loan might have a fixed or variable interest rate.
With a fixed interest agreement, the interest rate stays the same throughout the payment term. But with a variable agreement, the interest rate will go up and down as the Reserve Bank hikes or cuts the repo rate.
While choosing a fixed-interest rate will protect you from interest rate increases over the duration of the loan, you’ll lose out if interest rates drop. A fixed interest rate will also usually be a little higher than the variable interest rate at the time. Make sure to do your research and understand which option is best for you.
It’s certainly possible to get a car loan in South Africa with a small or even no deposit if you have a sound credit score and meet the affordability criteria. But it’s still worth trying to scrape at least 5% to 10% of the vehicle’s asking price together as a deposit.
Paying a higher deposit will reduce the amount of money you need to borrow, which will in turn reduce the interest you pay over the loan period. Financers might also offer you a more attractive interest rate if you pay a decent deposit — because it indicates that you are likely a lower risk customer.
Standard car loans in South Africa have a duration of between 12 and 72 months. The average loan term is five to six years. The longer the loan agreement, the slower you will repay the principal amount and the more interest you will pay.
In general, consumers are not advised to take a loan that will last more than six years for a car. A car is a depreciating asset, which means it loses value with every passing year.
You don’t still want to be paying monthly repayments with interest once the car is worth only a few thousand rand. Remember that you might need to pay a penalty if you try to end the loan contract early.
Choosing a balloon payment can make the repayments on your dream car seem more affordable. But you need to make sure that your balloon payment won’t turn into a nightmare at the end of the loan payment.
Bear in mind that a balloon payment is a double-edged sword, it lowers your monthly payments, but you will still need to pay all the interest on the outstanding amount at the end of the loan term. Given that balloon payments can be steep, you’ll need to plan for it at the end of the loan agreement.
You often have other options at the end of the loan agreement:
•You might be able to refinance the balloon payment, essentially taking out a new loan to cover this cost. This is usually not a compelling choice because you’ll pay massive financing costs for a car that may be five or six years old by then (and likely worth less than your balloon payment).
•You could sell the car back to the dealer for a “guaranteed future value”. The amount is generally only enough to cover the balloon payments and is also decided at the beginning of your deal with the dealership. So you’ll need to dig into your pockets to pay for the deposit for your next car.
When a lender decides whether to grant you a loan and which terms, it will need to assess your risk profile. Your credit history is one of the important factors.
If you’re buying a car for the first time, you probably have little or no credit history. If you have a history of repaying debt late or defaulting on a loan, it could hurt your loan application.
No or a negative credit history might mean you’ll need to pay a higher interest rate — if a lender is willing to lend to you at all. But if you have a history of borrowing responsibly and paying debt on time, you will have a good credit record and may be able to get a better interest rate.
Lenders usually also want to see that you have a reasonable debt-to-income ratio and a steady income before they grant you a loan — they will not want to give you a loan if they fear you will not be able to afford the repayments because you’re over-indebted.
You can, to some extent, improve your risk profile by opting for a shorter loan term, putting down a larger deposit or buying a cheaper car if you can’t get a car loan for your preferred amount or on your preferred terms.
When you finance a car, budget for thefull cost of car ownership to ensure that you don't run short of money. In addition to your deposit and instalments, you should plan for fuel costs, insurance, maintenance, and repairs.
If you’re financing the car, you’ll need to buy comprehensive insurance for it before driving away from the showroom. A proof of insurance certificate is required for this purpose.
Dealers often have partners that offer insurance, or you can get cover through the finance house you’re getting a car loan from.
These days, you can get quotes online, buy insurance and generate a proof of insurance certificate from digital insurance platforms like Naked, all while you’re at the dealership. It’s best to shop around for a few quotes to find the most affordable policy for your budget.
Depending on your circumstances, a traditional car loan is not your only option.
If you have an access bond, you could consider using money from this account to pay for the vehicle. Interest rates on home loans are generally lower than for car loans and you’ll have the flexibility to pay back what you borrowed as and when it suits you.
You also won’t need to go through the loan approval process. And if you’re buying an older car or buying in a private transaction, you might not be able to get a car loan.
Your option then might be to get a personal loan. Be aware that interest rates for unsecured personal loans are generally higher than for car financing.
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