Couple seated in front seat of car, looking back © Jack Frog/Shutterstock.com

Dear Driving for Dollars,

We are so confused about our car loan. Our unpaid balance is just under $11,000 and our monthly payment is just under $300. We are thinking we have about 3 years left on our loan, yet when I look at the statement online, it says we have 50 payments left. That’s more than four years! We always make the monthly payment on time, so we know it’s not because of something we are doing wrong. Why doesn’t the unpaid balance and the payments remaining match up with the monthly payment?

— Brandi & Joseph

Dear Brandi & Joseph,

The basic answer to your question has to do with amortization of a loan. For any loan, the monthly payment is made up of the principal (the actual dollar cost of the items you are buying) and the interest associated with the loan. In the beginning of the loan, you pay less on the principal and more on the interest. Toward the loan’s end, most of your monthly payment goes toward the principal and less toward the interest. This is amortization.

But you are likely facing an issue that many consumers experience when they buy a new car. In an effort to keep the monthly payment lower, lenders write loans for longer terms. That means you pay more interest over the life of the loan, paying down the principal more slowly than you would with a shorter loan. And the higher your interest rate, the faster those dollars in interest add up.

Let’s say, for example, you have a $10,000 auto loan with a 5-year (60 months) term. At a 5% interest rate, your payments would be $188.71 per month and you’d pay $1,322.47 in interest over the life of the loan. But if your interest rate is 10%, your monthly payment would be $212.47 and you’d pay $2,748.23 in interest.

The way loans end up getting extended for longer terms is when the customer wants to stick to a specific monthly payment and they don’t realize they don’t qualify for the interest rate they expect or the payment they see advertised on TV.

Using our example above, let’s pretend that a customer sees an ad for a specific car for a monthly payment of $189, but when he arrives at the dealership and goes to make the deal, he doesn’t qualify for that interest rate, so in order to get that payment, the dealership must extend the loan. In this example, the loan would need to be extended to 71 months, 11 months longer than if the customer qualified for the lower interest rate, to reduce the payment to $187.17.

The longer term means that he now pays $3,288.79 in interest over the life of the loan and pays down the principal at a slower rate. For example, at month 30 of the loan, he owes $5,619.22 with the 60-month loan term and $6,477.63 with the 71-month loan term.

Unfortunately, the dealership may not spell this out to the customer and instead gloss over the terms when it goes over the paperwork, leaving the customer with a surprise at some point during the loan, much like what you are describing.

To see exactly how loan terms and interest rates are affecting you, go to Bankrate.com’s Auto Calculator, enter in the specifics of your loan, choose “calculate” and then “show amortization table.”

RATE SEARCH: Don’t go car-shopping without first checking out auto loan rates at Bankrate.

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