Paying off a car loan with credit cards

Dear Debt Adviser:

What advantage (or disadvantage) would it be to pay my car off with my credit cards? If I combine all the cards, I can pay it off, or would it be cheaper to just continue to go through the bank?

Virginia

Dear Virginia:
Congratulations for wanting to get your car note paid off the fastest and least-expensive way possible.

Here are several things to consider before making a decision about paying off your car loan:

Which option will offer you a better interest rate? You do not say what you currently are paying in interest charges on your auto loan; however, it is likely that the interest rate is lower than the interest rate of your credit cards. On average, the interest rate on car loans is about 5-percent lower than the rate on credit cards. See the
current national averages.

A difference of 5 percentage points can really make a difference in the total amount paid on a loan. For example, let’s say you have $5,000 and two years left to pay on your car loan at an 8 percent annual interest rate. At that interest rate, you would pay a total of $427.27 in interest charges during the term of the loan.

Add 5 percent for an annual interest rate of 13 percent and your interest charges would be $705.02. That is a significant increase in the total amount left to pay off the loan.

A longer-term loan is not always a better deal. You may be tempted to use your credit cards to lower the amount of your payment. Be careful not to stretch out payments longer than the life of the car. You do not want to be in the position of paying for a car you no longer own or making another car payment at the same time.

Review your car loan agreement. Some loans include a penalty provision when paying off the loan early. You will want to make sure your loan does not include this type of prepayment penalty.

Do your credit cards offer incentives in air miles or other offers? You will need to weigh the benefits of the incentives against the additional cost of interest charges. A plane trip paid for with air miles may be worth more than the increase in the total amount to pay off the loan due to interest charges. Are you sure you would make use of the benefit within the prescribed time?

What if you are unable to make payments? Most credit card agreements state that if a payment is missed or late, the credit grantor has the right to raise the interest rate. That means that a relatively low credit card interest rate may balloon to 19 percent or even 24 percent plus fees with only one missed payment. As we have already learned, that would be a substantial increase in the total amount paid on the loan.

Are you prepared for emergencies? Do you have sufficient savings set aside for financial crises such as a job loss, major home repair or illness? Experts recommend that you set aside three to six months of your living expenses as a savings cushion. If you do not have a savings cushion, you may have to rely on credit to pay for unexpected large expenses. Will you have credit available to you if your current cards are used to pay off your car loan?

After you have considered all these things, you should have a better idea of what is the best way for you to pay off your car loan. Good luck!

The Debt Adviser, Steve Bucci, is the president of Consumer Credit Counseling Service of Southern New England. Visit
CCCS for additional
debt advice or
click here to ask a debt question.