Auto Loans - Low APR Vs Rebate Option

0 APR car deal, the rebate being offered by the manufacturer, or the special interest rate? Like most options, it depends. Manufacturers offer choice in programs because one size does not fit all in the car biz.

Today's new car deals frequently offer the buyer a choice in manufacturer-supported programs-a large rebate, or a special interest rate. To understand which approach is best for you it is helpful to understand why financial options exist. Programs such as Low Interest Rates and/or Rebates exist solely for the purpose of stimulating car sales. Programs are not about giving you convenience in financial options...they are all about selling vehicles for the dealer and manufacturer.

The more a vehicle is in demand, the less manufacturers need to lure buyers in with programs. Too many of the buyers I talk to seem to resent that they cannot have both the maximum rebate and the very best interest rate. What they fail to understand is that the manufacturer would rather that no programs exist-it cost them money! So, when a manufacturer establishes a stimulus program they do so to cover as many buyers as possible. The cash buyers, for example, do not care about interest rate support-they're paying cash! On the other hand, if a buyer has questionable credit and can only qualify for 15% - 18% type interest, rate support in the 2.9% or 5.9% range makes a huge difference in their payment and may be the deciding factor in them affording a new vehicle.

So, when is it best to take the interest rate reduction? When it produces a lower payment than the rebate would produce. Sounds simple? Maybe not. A low rate may not be your best option-especially if the rebate you are giving up is sizable.

Here are examples that may make a rebate the better option:

1. Buyers: Saving money on finance doesn't matter...they don't want a car note and are glad to save money via cash rebates

2. Frequent Buyers: A sizeable portion of car buyers trade out every two or three years and may actually be better off with a higher payment if the amount being financed is considerably lower because of the rebate. Here's an example. A buyer finances $30,000 at 0% for 60 months, resulting in a $500/month payment. His option, taking a rebate of $4000, would have lowered the initial note by that same amount (less in states that allow the rebate to lower the sales tax responsibility) so that the initial note is $26000, or a $520 payment (7.4% for 60 months)... If the buyer stays in the vehicle for the entire 60 months, he saves $520 - $500 x 60 months, or $1200 by going with the 0% option. If he decides to trade the vehicle in, say two years later, we have a different story. The 0% option leaves him a payoff of $18000 after two years ($30000 - $500 x 24 payments), while the higher payment yields a lower payoff of $16736. Do you trade out of your vehicle on a frequent basis? Be honest with yourself...the higher payment may be better if the payoff-when you think you might trade out-is lower.

3. Frequent Buyers with Negative Equity: "Negative Equity" is perhaps the most dreaded phrase in the car biz. It means you owe more on the vehicle than what it is worth. Other car slang would say you are "upside down", or "buried". For all of you who think that we in the biz are "vultures", waiting to pounce on the next guy who drives to the car lot, try driving up in a one year-old Mitsubishi, Dodge, or Kia*. The birds will fly, I guarantee you! Car salesmen can smell negative equity a mile away and they don't like it. But suppose your one-year old Kia-which you are eight-grand buried in, is being traded in on a new vehicle with $4000 in rebates. In this case the rebate would put you in a position to buy a new vehicle. You may not like the payment, but at least the math works for the lender. (Here's the math: You buy a $30000 ride, and the manufacture offers your choice of either 0%, or $4000 in rebates. Suppose "invoice" is $29000, and , with good credit, the lender is willing to loan 20% past the value of the vehicle. By taking 0% you need to finance $30000 (price of the vehicle) plus the negative equity, or $38000. Trouble is the lender is only willing to loan +20% of invoice, or $29000 x 1.2, or $34800. You need $38000, the lender will only loan $34800. So, if you want the 0% option you need to belly up with the difference, or $3600. On the other hand... if you took the rebate you need to borrow $26000 plus the eight large in negative, or $26000 + $8000, or $34000. Now the math works. (Remember the lender is willing to loan 20% past the loan value of $29000, creating a max loan on that vehicle of $34800.)

4. Buyers Who Smash Up Their Vehicles Before It's Paid Off: OK...so who's able to predict this other than the Kia guy who tries to run his eight-grand-buried ride off the bridge? The point is... if the payment is close, go with the rebate. Should you encounter the unfortunate "total loss", you will owe less when reconciling with the insurance company.

Hope that helps! And if you are a cash buyer, consider taking the rebate, then replenishing your cash with the money you would have spent on a payment. You will come out farther ahead than if you had kept your stash in a moderate investment.

*The vehicles used in this whimsical example are not meant to represent vehicles with poor resale value-rather they are meant to represent all one-year old vehicles that tend to create a negative equity position-assuming little or no money is contributed in the deal.