Auto sales account for approximately 20 percent of all retail spending, and auto purchases have been on the rise. In 2016, new car purchases in America reached an all-time high, which many consider a sign of expanding consumer confidence.
However, the array of available options is greater than ever before, and has led to pricier vehicles. According to Edmunds.com, in order to afford these pricier vehicles, many Americans are choosing to take on longer payment plans.
As additional options continue to become available for today’s technologically advanced vehicles, the price difference between new and used cars continues to widen. When compared to the average price of a used car, purchasing a new car can cost an additional $11,000.
According to Melinda Zabritski, who is Experian’s senior director of automotive finance, the difference between the average loan for purchasing a new or a used car is at a record high. She states that this gap exists due to the rising cost of new cars. Zabritski adds that this upward trend has led to consumers using alternative methods to purchase the vehicles they want and still remain within their budgets – such as extending the length of their payment plans.
The New Average Payment Plan
In June, the average term for a car payment plan reached a record high of 69.3 months, which is almost 7 percent longer than the car loans taken out five years ago. Jessica Caldwell is the executive director of industry analysis for Edmunds. She states that people are stretching the length of their loans in order to purchase the cars they want and equip them with the options they desire.
According to Consumer Affairs, personal finance experts say that a vehicle should not be financed longer than 60 months, with a loan no longer than 48 months being optimum. In addition, experts recommend that consumers put down a large down payment, which will substantially reduce their monthly payment.
Although there is an abundance of attractive vehicles within the $16,000 to $26,000 price range, many consumers are choosing more expensive vehicles that are equipped with the latest technological advancements and comfort options available.
In June, Americans financed nearly $40,000 for a new vehicle on average – an increase of more than $600 from the month before. Longer financing trends have led to higher monthly payments as well. Monthly payments now average $517, which is a $7-a-month increase from May.
New Car Depreciation is a Major Concern
As a new car depreciates, borrowers may end up in an ‘upside-down loan’ rather quickly. Caldwell states that it is a financial risk for a borrower to be upside down for a large portion of their auto loan; however, spending more on a vehicle and committing to a longer payment plan indicates that consumers remain confident in the economy.
Financial terms, such as low interest rates, are increasing the demand for vehicle loans as well. According to Edmunds, in June, the annual percentage rate dropped just below 5 percent, which has not been seen since February. However, in retrospect, the APR has increased nearly 6 percent from June 2016, and almost 14 percent when compared to five years ago.
Credit market observers are intently watching the auto-loan market, especially when it comes to borrowers with debt loads similar to those seen in the 2008-09 financial crisis. Individuals purchasing a new vehicle had an average credit score of 717; whereas, individuals who purchased a used car had a credit score of 652. Observers are also keeping a close eye on the increased number of non-bank lenders extending loans to borrowers who have lower credit scores.
According to Experian, there is always someone claiming that the subprime auto loan bubble is bursting. Despite the concerns of credit market observers, lenders are making rational decisions based on market shifts. When car-loan delinquencies started to rise, the lending market started to tighten and become more selective.
Regards,
Ethan Warrick
Editor
Wealth Authority
