What Can I Afford?

Cash, Credit, Leasing

Cash

The most economical way for you to pay for your new car would be to use money you already have on hand--unless the rate of return it's earning is higher than the cost of borrowing the money.

Most people find it either impractical or impossible to come up with the entire amount of money it takes to buy a vehicle. Even if you do have enough money to cover the purchase, you might be better off using it in other ways.

Credit

There are many options to choose from when looking into ways of financing your car with credit. Be sure to examine each carefully to find the one best suited to your personal needs.

Here are brief explanations of the credit options available to most car buyers:

• Pre-approved Car Loans
  With a pre-approved car loan, your lender approves the amount you can borrow before you start shopping for your car. That way, you know exactly how much you can spend on a car and what your maximum monthly loan payment will be.
  
  Pre-approved car loans are available at most Canadian financial institutions.
• Ordinary Car Loans
  If you decide to finance your new car with an ordinary car loan, you can select either a fixed or variable interest rate.
  • A fixed-rate loan gives you the security of knowing exactly what your interest rate and monthly payments will be during the loan term you select.
  • A variable-rate loan gives you the convenience of fixed payments for at least one year and the potential to pay more or less interest, according to current rate fluctuations. If interest rates go down, you benefit; if rates rise, you can choose to increase your monthly payments or extend the term of your loan.
  You will probably find the fixed interest rate offered by most financial institutions to be slightly higher than the variable rate on the same loan: this is because a fixed rate provides the borrower with security against rate fluctuations.
  
  Many financial institutions give car-loan customers the option of switching from a variable rate to a fixed rate, or vice versa, without penalty.
  
  Whether you choose a fixed or variable rate, your total monthly payment will be based on the principal amount of the loan plus interest charges for the term you select.
  
  Ordinary car loans are available at most Canadian financial institutions.
• Residual-value Car Loan Programs
  A residual-value car loan is very different from ordinary car loans, and is only offered by a small number of financial institutions. With a residual-value car loan, you have the opportunity to make much lower payments than ordinary car loan payments. This depends on the residual value of the car at the end of your loan term, the amount of your down payment or trade-in, the length of your loan term, and the payment schedule you choose.
  
  Here's how a residual value car loan works:
  • The financial institution offering this type of loan establishes a future resale value (also called the residual or buy-back value) for your car at the end of the loan term you choose.
  • This future resale, or residual, value is used to reduce the principal amount you have to repay during the term of your loan. You pay interest only on the car's residual value, and principal and interest on your remaining loan balance--the amount of the loan less the residual value. This can lower your monthly payments substantially, as shown in the following example.

At the end of your residual-value car loan term, you usually have three options:

1. Keep the car and pay off or refinance the balance of your loan.
2. Sell or trade in the car personally. If you sell it for more than the residual value, you keep the surplus after paying off the balance of your loan. If you sell it for less than the residual value, you must still repay the balance of your loan.
3. Return the car to a designated agent of the financial institution. You will receive a credit on the balance of your loan for the residual value.

With residual-value car loans, you can usually choose fixed or variable interest rates and switch between them without penalty.

• Dealer Financing
  Car dealers offer financing in affiliation with various financial institutions and car manufacturers. When you shop for a car, ask for details about financing plans from the dealerships you visit.

Leasing

The lower monthly payments associated with leasing a car have resulted in its increased popularity during the last decade of rising car costs.

With leasing, monthly payments are based on the difference between the car's initial price and its expected residual value at the end of the lease term.

The leasing company retains ownership of the car while you are leasing it; however, you are responsible for all maintenance and repairs during the term of your lease.

There are two types of leases:

• Closed-end Lease
  With a closed-end lease, the leasing company is responsible for the residual value of the vehicle at lease-end. You can choose to buy the car for that price, plus any other charges or fees stipulated in the lease, or return it to the leasing company.
• Open-end Lease
  If you have an open-end lease, you are responsible for the residual value of the vehicle. At lease-end, you are obliged to pay that amount to the leasing company together with any other charges or fees stipulated in the lease.
  
  Despite the attractive low monthly payments associated with leasing, it may not be for everyone. If you choose to lease, make sure you read the fine print and understand all the costs and restrictions involved. For example, you will probably have to give a down payment as well as a security deposit, making leasing more costly than you anticipated.