How does vehicle financing work?

Having a vehicle is essential for many Canadians, especially those living in Ontario. From the mercurial weather, to being able to commute to work or nearby areas, a vehicle ensures you can get where you’re going quickly, comfortably, and on time. Of course, buying a vehicle is a serious commitment that’s not quite as easy as walking into your favourite store to buy a t-shirt. It involves researching your needs, creating a budget, and oftentimes, applying for a vehicle loan. 

The reality is, most Canadians don’t have enough in their savings to just walk into a dealership and pay cash for a vehicle. Things were a little different when you saved all throughout high school to buy a $2,000 Dodge Neon, but with rent and bills and all sorts of other financial obligations, it often makes more sense to lease or finance. While there are certainly merits to both options, today we’re going to look at how vehicle financing works.

The vehicle financing process in Canada

Financing a vehicle in Canada means finding a lender that will provide you with credit equal to the cost of the vehicle—also known as the Principal. A lender can consist of any financial intuition or business that can lend you money, including banks, dealerships, or credit unions. The vehicle is then considered as security for the loan, meaning if you can’t (or don’t) make payments, the lender can repossess the vehicle to cover their losses. 

There are three main terms you should know in regards to vehicle financing, which you’ll find below.

Term

The term on your vehicle loan is the total length of time you have to make payments on said loan, with loans in Canada ranging anywhere from 12 to 96 months. Of course, there are benefits to both shorter and longer terms. With a shorter term, you’ll need to make fewer interest payments, however you will have to make higher monthly payments. Whereas loans with longer terms result in lower monthly payments—perhaps making a more expensive vehicle more affordable in your budget—but you’ll have to balance that with paying more interest over time. The sweet spot usually falls around the 60 to 72 month range, where you’ll make a smaller monthly payment without the interest adding up too much. 

Principal

The principal is the total amount of the vehicle you’ll receive a loan for, not including interest. This means the cost of the vehicle itself, including any fees, taxes, or add-ons. That means a more expensive vehicle results in a higher principal, while a less expensive vehicle will come with a lower principal. This ties into your loan’s term, as vehicles with a higher principal will have you choosing between more expensive monthly payments or longer term (and paying more interest).

Interest Rates  

Finally, you’ll want to pay attention to the interest rate of your vehicle loan. Interest is what you pay over and above the principal, over time, meaning the higher the interest rate the more you’ll pay above the principal. If your credit is excellent and you qualify for a lower interest rate, you’ll be able to purchase a more expensive vehicle or simply pay less over the term of your loan. All this information will be found in the bill of sale which will break down the Total Cost of Borrowing over the full term of your vehicle loan, by simply calculating the monthly interest rate off of the principal and multiplying it by your loan’s term.

Interest rates will change depending on your credit history, going anywhere from 0% to 5.95% on new vehicles, and anywhere from 3.95% to almost 30% on used vehicles. The disparity in interest rates is because used vehicles will often cost less than their newer counterparts (a lower principal), and dealerships will want to recoup some of their costs—think purchasing, refurbishing, storing, advertising, and other dealership overhead. 

Is it better to lease or finance?

This choice between leasing and financing isn’t always an easy one, and it’s something we’ll tackle in a future blog post. The best answer we can give you is: it depends. There are pros and cons to both options, a lot of which depend on your needs and your financial situation. Leasing a vehicle allows you to upgrade every few years, or only hold onto a vehicle for a short period of time. You won’t end up paying for the vehicle’s depreciation, but at the same time you’ll essentially be paying for the privilege of renting it. As well, there are usually more stipulations and restrictions when it comes to leasing a vehicle. With financing, you’ll end up owning the vehicle at the end of your term, and you’ll have more freedom with the vehicle itself in terms of mileage or modifications. However, you’ll also be on the hook for maintenance and any depreciation if you decide to sell it down the road.

Why finance with Ontario’s Autohouse Kingston?

Family owned and operated since 1990, you can trust the experience and expertise the team at Autohouse Kingston brings to the table. Our goal is to make financing your next vehicle an easy and enjoyable experience, part of which we do by being as transparent as possible. We’re here to answer any questions you might have, including our regularly updated blog breaking down some of the important terms and concepts related to financing. If you have a question that hasn’t been answered by our blog or FAQ page, then simply give us a call and we’d be happy to help you out. And if you feel comfortable starting the process, simply click here to fill out our secure online credit form!