$332x60 months or $500x36 months (balance, buy, year, payment)
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This is the correct answer provided the interest rate is exactly the same for both loans and there is no pre payment penalty.
The interest rates don't need to be the same. If you have a higher rate but are paying more than the required payment you are effectively reducing your interest
Any prepayment penalty with the 60 months payment? If not, take the 60 months payment and pay $500 instead of $332. On months when it's tight, pay the $332
That's what I'd do. Who knows what the future holds?
What would you do with $168 left over if you chose option 1? $168* 36 months = $6,048. Seems like option 1 is better as long as you don't squander the monthly savings.
You are forgetting that you are still paying another 24*$332 payments. In the end, you are paying $1,920 more for a 5 years plan. The nice thing about choosing the 5 years is the flexibility. If OP takes the 5 years option and pay it off in 3 years, total payment may be a little more than $18,000 but definitely not $19,920.
Based on human nature, the average person's financial knowledge and discipline and what I've seen working in finance. People will often talk themselves out of the larger payment an not stick to it over time
There have been studies done by the fed in the mortgage space that suggest fewer than 20% of people make any extra mortgage payments and I read before that 97% of 30 year note holders do not pay their loan off early(a large portion of that is because most never pay a loan off at all) the pattern would duplicate itself with car loans even if the %s were a little different
Last edited by Lowexpectations; 05-21-2014 at 09:24 AM..
You are forgetting that you are still paying another 24*$332 payments. In the end, you are paying $1,920 more for a 5 years plan. The nice thing about choosing the 5 years is the flexibility. If OP takes the 5 years option and pay it off in 3 years, total payment may be a little more than $18,000 but definitely not $19,920.
no, i didn't forget that there was 24 more months to go. i asked what the OP would do with the savings for those 36 months. if used wisely, that $6,000+ saved could go a long way towards making up for the $1920 extra cost
The interest rates don't need to be the same. If you have a higher rate but are paying more than the required payment you are effectively reducing your interest
Still is important. I couldn't come up with the OPs loan amount & interest working backwards on this one, so I just picked numbers that were in the general ballpark. So for example:
A loan amount of $16,500 at 7.75% for 3 years would be a monthly payment of $515.15 and a total payment of $18,545.38
A loan amount of $16,500 at 7.75% for 5 years would be a monthly payment of $332.59 and a total payment of $19,955.32
If the difference ($182.56) between the payments was made each month, then the loan would be paid off in 3 years and total payment would be identical to the 3 year.
If, however, the interest rate is higher on the longer loan, as they often are, for example 9%, then making the extra $182.56 per month payment would still result in a total payment of $18,887.09, or $341.71 more than doing the shorter loan at the lower interest rate.
So the interest rate does matter if they are different. Whether they matter ENOUGH to change the decision is a different question.
It also matters what type of loan it is, at least it would to me. For example, for some loan types, such as cars, if you pay extra, it pushes your next payment due date out. For mortgages, it comes off the principal and speeds up the payment, especially in the beginning. For credit cards, it lowers next month's minimum payment amount. If your concern is financial hardship in the future, a mortgage would only make $168 worth of difference each month if you had to cut back to the minimum, whereas a car payment might mean you could go several months without making any payment at all, if you were that far ahead, which would help a lot more.
Still is important. I couldn't come up with the OPs loan amount & interest working backwards on this one, so I just picked numbers that were in the general ballpark. So for example:
A loan amount of $16,500 at 7.75% for 3 years would be a monthly payment of $515.15 and a total payment of $18,545.38
A loan amount of $16,500 at 7.75% for 5 years would be a monthly payment of $332.59 and a total payment of $19,955.32
If the difference ($182.56) between the payments was made each month, then the loan would be paid off in 3 years and total payment would be identical to the 3 year.
If, however, the interest rate is higher on the longer loan, as they often are, for example 9%, then making the extra $182.56 per month payment would still result in a total payment of $18,887.09, or $341.71 more than doing the shorter loan at the lower interest rate.
So the interest rate does matter if they are different. Whether they matter ENOUGH to change the decision is a different question.
It also matters what type of loan it is, at least it would to me. For example, for some loan types, such as cars, if you pay extra, it pushes your next payment due date out. For mortgages, it comes off the principal and speeds up the payment, especially in the beginning. For credit cards, it lowers next month's minimum payment amount. If your concern is financial hardship in the future, a mortgage would only make $168 worth of difference each month if you had to cut back to the minimum, whereas a car payment might mean you could go several months without making any payment at all, if you were that far ahead, which would help a lot more.
I said the rates don't have to be the same and that's true.
I ran some quick numbers on financial calculator. We really are only getting pmt, n, and fv. Unfortunately, since we know pv and i/y are not zero, we can not really solve the problem.
However, I asked myself what kind of rates would be prevalent on a loan like this and said "maybe around 1% per month". Doing that and solving for PV showed that both would be very close to a 15,000 balance. So, most likely, the initial loan is for 15k. In that case, the monthly rates are: .9816% for the 3 year. 1.0207% for the 5 year.
I would recommend taking the 3 year loan because this interest rate is very high and damaging to the finances of almost anyone taking it out. The 3 year loan has an APY of 12.44%. The 5 year loan has an APY of 12.96%.
Of course, both figures assume there are no other fees.
For heaven's sake, don't let this be for a car. 3 year and 5 year loans are VERY common for financing cars. If you are financing a car at these rates, you really can't afford the car and should learn how to use craigslist to buy something you can afford.
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