How to Calculate Auto Loan Interest

How to Calculate Auto Loan Interest

When you take out an auto loan, you'll receive an interest rate from the lender based on your creditworthiness and other factors. This rate determines how interest accrues on your loan.

However, the rate you see is typically the loan's annual percentage rate (APR), which incorporates interest costs and other charges related to the loan. While this gives you a better idea of the total cost of borrowing, it's important to use the actual interest rate to calculate your interest charges.

Calculating Interest With an Online Calculator

Here's how you can calculate auto loan interest using Experian's car payment calculator:

1. Provide the loan amount. If you're not sure exactly how much you plan to borrow, enter an estimate based on the sales price of the vehicle you're considering, potential add-on costs and your down payment.
2. Select your repayment term. Choose a term ranging from 36 months to 96 months.
3. Enter the interest rate. Remember, you'll want to use the actual interest rate rather than the APR. The two may be the same in some instances, but if there are additional fees, the APR may be higher.

As an example, let's say you expect to borrow $20,000 with a 6% interest rate. Over a four-year repayment period, your monthly payment would be $469.70, and you'd pay $2,545.63 in interest.

Calculating Interest Manually

There's no simple approach for calculating interest for an auto loan by hand with just the loan amount, interest rate and repayment term.

However, if you have an estimated monthly payment, simply multiply the payment amount by the number of months in your loan term. Then, subtract the original loan balance from the result.

Taking the same example above, here's how you'd do it:

1. $469.70 x 48 = $22,545.60
2. $22,545.60 - $20,000 = $2,545.60 in interest

As you can see, this result is a few cents off from the calculator's result, but it's close enough to give you a good idea of what your costs will look like.

Car payment calculator

What Factors Determine Car Loan Interest Rates?

Lenders look at several factors to determine the interest rate to apply to your auto loan. Some of those factors include:

• Economic conditions: Lenders typically use benchmark interest rates to set the rates they offer to borrowers. These benchmark rates are influenced by the Federal Reserve's federal funds rate and other economic data.
• Credit score and history: Your credit score offers a snapshot of your credit health, but it doesn't tell the full story. As a result, the lender may also look at one or more of your credit reports.
• Income: In addition to a minimum income requirement, lenders will look at the relationship between your earnings and your financial obligations. To do this, they'll calculate your debt-to-income ratio (DTI), which indicates the percentage of your gross monthly payment that goes toward debt payments.
• Loan amount: The lender will consider the total amount borrowed relative to the value of the vehicle, including any down payment you make.
• Repayment term: This tells the lender how long it'll take for the lender to effectively get its money back. Shorter terms tend to be less risky and, therefore, often command lower rates.
• Vehicle age: Lenders usually offer lower interest rates on new cars because they have less wear and tear. As such, they represent less of a risk of mechanical breakdown, which could impact the lender's ability to recoup its investment.

What Is a Good Interest Rate for a Car Loan?

A good interest rate for an auto loan may be different for each person. If you have fair credit, for instance, you may be shooting for a different rate compared to someone with good credit.

One way to evaluate your options is to compare the rates you're seeing with the average interest rates for different credit score ranges. Here's a quick summary of average rates, according to third-quarter (Q3) 2024 data from Experian's State of the Automotive Finance Market report:

Source: Experian State of the Automotive Finance Market report, Q3 2024

How to Pay Less Interest on a Car Loan

If your top priority is to minimize your interest costs, here are some steps you can take to accomplish your goal:

• Shop around. Each lender has a different approach to underwriting, so it's possible to get a lower interest rate with one lender than you might with another. It's best to get preapproved with at least a few lenders to improve your chances of getting the lowest rate possible.
• Put more money down. Making a larger down payment not only reduces the total amount you're borrowing, but it may also help you qualify for a lower interest rate. Just make sure you balance your down payment with your other savings goals, including your emergency fund.
• Opt for a shorter loan term. Shorter repayment terms often come with lower interest rates. What's more, because you're paying off the debt sooner, there's less time for interest to accrue. However, shorter repayment periods also result in higher monthly payments, so it's important to ensure that you can afford it.
• Improve your credit score. Remember, the higher your credit score, the better your odds of securing a lower interest rate. Check your free Experian credit report and FICO^® Score^☉ to get a feel for where you stand, along with insights into how you can improve.
• Make extra payments. Once you get started with your loan, making extra payments can help you reduce your principal balance more quickly. A lower balance will accrue less interest, and paying off the loan faster will eliminate future interest charges entirely.

The Bottom Line

Auto loan interest is a product of many different factors, and understanding each one can help you maximize your savings when buying a car.

As you prepare for your next vehicle purchase, Experian's free credit monitoring service can help you stay on top of your FICO^® Score and Experian credit report, tracking your progress and notifying you of changes to your report that may help or hurt your efforts to build and maintain a good credit history.