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What Is Car Loan Amortization?

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Rebecca Lake

Rebecca Lake

Updated February 16, 2021
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Getting financing to purchase a new or used vehicle can sometimes be a better option than paying cash. But when you’re reviewing auto loans, it's important to understand how car loan amortization works. Auto loan amortization simply means the process of paying off a vehicle loan. When a buyer uses financing to purchase a vehicle, the lender or financing company should provide that buyer with an auto loan amortization schedule. This schedule explains how the loan payments are applied over time. What this schedule looks like ultimately depends on several factors, including the vehicle's purchase price, the loan's interest rate and APR, and the loan term. If you're in the process of financing a vehicle or if you just plan to buy a car at some point soon, here's more on why auto loan amortization matters.

How Car Loan Amortization Works

Amortization refers to the process of paying off a loan (a car loan or any other kind of loan) according to a predetermined schedule. When a loan follows an amortization schedule, the payments are divided between the principal owed and the finance charges. Specifically, part of each payment is applied to:
  • Principal. This represents the amount of money you borrowed to purchase the vehicle.
  • Interest. This is the cost the lender charges you for financing the vehicle with a loan.
  • Fees. This includes any fees that are factored into your loan's annual percentage rate (APR). 
The most important thing to understand about car loan amortization is how payments are applied. During the early part of the loan, a larger portion of each payment you make is directed to the interest and fees that you owe. Over time, this balance shifts so that by the time you reach the end of your loan term, more of your monthly payment goes to the principal. This allows the lender or financing company to collect interest and fees sooner rather than later. If you end up defaulting on the loan midway or three-quarters of the way through the loan term, for instance, the lender has already collected a sizable amount of interest and fees for the money it loaned you. Auto loan amortization effectively allows lenders to protect their investments. 

How Does an Amortization Schedule for Car Loans Work?

When you finance a vehicle, the lender or financing company doesn't leave you in the dark about how your payments are applied. Instead, it provides you with an auto loan amortization schedule. This amortization schedule breaks down for you:
  • The total number of payments you'll make on the loan
  • The beginning loan balance for the month
  • The ending loan balance for the month after your payment is applied
  • How much of the payment goes toward interest
  • How much of the payment goes toward fees, if applicable
  • How much of the payment goes toward the loan principal
If you're still shopping for an auto loan, you can use an amortization schedule car loan calculator to estimate what your payments will look like over time. For example, say you want to take out a $20,000 loan with a 60-month term. You plan to put down $2,500 on the loan and you'll pay $940 in taxes and fees at signing, leaving you with a total financing amount of $18,440. Assuming a 4% interest rate, your monthly payments would work out to be $339.60. If you plug the numbers into an amortization schedule auto loan calculator you'll see that when you make your first payment, $278.13 would go to the principal while $61.47 would go to interest. By the time you reach your 60th and final payment, $338.53 would go to the principal while just $1.13 would go to interest.

What Factors Affect Auto Loan Amortization?

There are a number of factors that can influence car amortization when you’re using financing to purchase a vehicle. The most important things to keep in mind are:
  • Down payment. The more you put down on an auto loan, the less you'll have to finance and the lower your monthly payments may be. 
  • Trade-in value. Offering a vehicle for trade-in could also reduce the amount you have to finance and thus lower your payments.
  • Fees and taxes. If you have to pay taxes, title fees, and other costs at signing that are rolled into the loan, that can affect the amount that's amortized. 
  • Interest rate. Your auto loan's interest rate also matters, sincer a higher rate means more interest paid in total over the life of the loan.
  • Loan term. The longer your loan term, the more payments there are on your amortization schedule and the more interest you'll pay altogether, even though what you pay per month may be less than you’d pay with a shorter term. 
If you're shopping for a vehicle, using a car loan amortization calculator to play around with the numbers can be helpful as you set your budget. You can see at a glance how choosing a shorter or longer loan term, financing a smaller or larger amount, or getting a higher versus lower interest rate can affect your financing costs. 

What Can You Do to Affect Your Car Loan Amortization Schedule?

There are some things you can do to directly impact what your car loan amortization schedule looks like and how quickly you're able to pay the vehicle off. They include:
  • Improving your credit score to qualify for more favorable auto loan rates
  • Offering a larger down payment to reduce the amount you need to finance
  • Choosing a shorter loan term (which can also mean making a larger monthly payment)
  • Adjusting your budget to purchase a less expensive vehicle
  • Making extra payments toward the loan's principal, beyond those dictated by the amortization schedule

Refinancing Can Affect Car Loan Amortization

If you have a vehicle loan currently, it's possible that you might want to refinance it into a new loan at different terms. Doing so could save you money if you're able to secure a lower interest rate. But auto loan refinancing can also affect your car loan amortization schedule. For example, if you end up extending the loan term, that can add months or even years onto your amortization schedule. And again, the longer the loan term, the more interest you could end up paying altogether, even if the new rate is significantly lower than your original auto loan. Before refinancing, it’s a good idea to do the math to determine how much you could save in interest to help you decide if it's worth it. Keep in mind that you may have trouble refinancing an auto loan if you're currently upside down, meaning that you owe more than the vehicle is worth. Lenders may require you to have a certain loan to value ratio to be approved for a refinance loan. 

The Takeaway

When it comes to financing a vehicle, it's important to ensure that you're getting the most value for your money. Your auto loan amortization schedule is a major tool in understanding where your money is going. Knowing how car loan amortization works can help you choose the right auto loan financing option for your needs in the future. And it can also give you some useful guidelines if you want to consider refinancing your current auto loan.

About the Author

Rebecca Lake

Rebecca Lake

Rebecca Lake is a freelance writer specializing in personal finance, investing and small business. Her work has appeared online at U.S. News and World Report, Forbes Advisor, and Investopedia. Rebecca writes about a variety of topics for SoFi, including budgeting, saving money and student loans.
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