At Shaun Del Grandees car dealerships in the San Francisco Bay Area,
the salespeople sometimes find themselves trying to convince shoppers to
buy less car, spend more cash, and use more traditional financing.
That
might seem like an unusual sales tactic to those familiar with
car-dealer stereotypes. But it reflects a change in the way many buy
cars: Longer loans — for six, seven, or even eight years, rather than
the traditional five — are more common, tempting buyers to take on more
debt to buy more expensive vehicles.
Over the last 10 years, the
length of the average car loan has risen above 68 months, driven by
cheaper financing, lower interest rates, and post recession demand.
Six-year loans are “very common right now,” said
Experts say the longer loans
have boosted car sales; some economists wonder whether they point
toward more delinquencies. Personal finance and car-buying experts,
meanwhile, generally caution against the loans, which lower payments but
mean more interest and finance charges. “We always tell [customers]
that this is marathon, not a sprint,” Del Grande said.
For now,
however, they remain a popular option. Jason Frees, a lending
consultant with Alliant Credit Union in Chicago, has helped
“payment-sensitive” buyers into electric cars from Tesla Motors TESLA, -5.09%
— its basic Model S sedan starts around $70,000 — using loans as long as seven years.
“It realizes their dream, and it fits their budget,” Frees said.
The
average length of car loans has risen steadily in recent years. While
five-year — or 60-month — loans were traditionally the longest most
lenders offered, they began to lengthen around 2012 as a means of
enticing buyers as interest rates stayed low and credit became more
widely available after the financial crisis.
Cars, meanwhile,
have grown more expensive as they incorporated advanced technology, such
as driver-assistance systems and high-end entertainment and
connectivity options.
Ten years ago, the average loan length for new vehicles was 63.3 months; in November, it was 68.3, according to Edmund's.com.
Credit-tracking
firm Experience says loans with terms lasting 73 to 84 months accounted
for nearly 28% of all new vehicles financed in the third quarter of last
year, up 17% from the same quarter a year ago. That share hit 30%
earlier in 2015, the highest percentage since Experience began reporting
the data in 2006.
Longer loans have helped buyers go up a level
in size or luxury, according to Caldwell, but they have also been a “big
driver” of auto sales generally. Last year was among the best ever for
the industry, with some analysts estimating that more than 18 million
vehicles sold.
Sales were under 12 million five years ago in the
wake of the financial crisis, according to citation; they were under 17
million in 2005. The previous banner year was 2000, when more than 17
million cars were sold, according to Edmund.com.
Lower gas prices and easy
credit were among the reasons for last year’s numbers, according to
analysts at Stifel, as were low interest rates; By making savings
unattractive, said Jack Nereid, executive market analyst at Kelley Blue
Book, low rates lead some to decide that “I might as well buy a car.”
That
meant a surge in car loans and an accompanying boom in “subprime” car
debt, according to the New York Federal Reserve, which defined subprime origination as loans to borrowers with credit scores below 620 — about
20% of all lenders — in a November white paper.
Third-quarter
2015 car pan origination reached $157 billion, the highest in a decade,
according to the New York Fed. Total car loan balances stood at $1.05
trillion as of late September, up from around $900 billion in mid-2014.
Subprime
car loan originations jumped to nearly $40 billion in the second
quarter, dipping only slightly in the third quarter, according to the
New York Fed.
“The total number of subprime originations has
since reached a 10-year, precrisis high, only surpassed by the unique
periods in 2005 that were associated with ‘employee pricing’ promotions
and record sales for the auto manufacturers,” the New York Fed wrote.
The
increase in subprime car loans may stoke fears of eroding credit
standards, which could lead to more delinquencies or repossessions. But
the New York Fed cautioned that its data wasn't adjusted for inflation —
and the prices of new cars have increased by about 6% in the past 10
years, so “although the level of subprime loans is comparable to that
from a decade ago, it is likely lower in real terms.”
The share
of buyers delinquent for more than 90 days on their car loan has
remained steady around 3%, meanwhile, an improvement from the 5% rate
that prevailed five years ago.
Low interest rates have helped drive car sales by making car loans seem more attractive.
As
vehicle prices have risen, average car loans and monthly payment
amounts have also increased. The average new-car amount financed was
expected to reach $29,121 in 2015, up $3,121 from 2010, according to
Caldwell; the average monthly payment was projected to hit $492, up $21
over the same period.
It’s common for buyers to overextend when
buying new cars, according to Nerad. Getting one can be fun, he said,
and many postponed purchases after the financial crises, leading to
pent-up demand.
Edmunds.com and many
financial advisers recommend loans no longer than five years, or 60
months — shorter if the buyer can afford it. Longer loans mean more
interest and finance charges, and cars tend to depreciate rapidly after
the five-year mark.
Take
the average price of a new car in 2015, $33,443, and an average
interest rate of 4.6%. Assuming a typical $5,000 down payment, the buyer
would’ve paid $3,412 in interest at the end of a five-year loan. An
eight-year loan lowers the payment from $531 to $354, but the interest
paid increases to $5,543.
Buyers who use longer loans to keep
payments low, experts say, are essentially paying more to make larger or
fancier cars seem affordable. While many Tesla buyers make more than
$200,00 a year, Freese said, some making half that — or even less — have
used them to get into the cars.
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