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Dealer finance vs car loan

Here's what you need to know to decide between dealer finance or a car loan.

Car loans and dealer finance are both popular car financing options that can get you the funds you need.

Learn how they differ and which one may be right for you below.

How does financing a car work?

Financing refers to the funds you secure in order to buy a vehicle. You have a number of car finance options, such as using your existing savings, applying for a car loan or applying for dealer finance through a car dealership. Once you have secured finance, you will use the money to cover the purchase price of your new car. If you're getting a car on finance, you'll then need to repay the amount you borrowed according to the terms you agreed to with the lender.

Dealership finance and car loans

Dealership finance refers to the finance options offered by a car dealership, such as Toyota Finance, Nissan Finance or Esanda, which secures the funds through a lender. Dealer finance may offer lower rates than car loans, but these rates may only be available on specific makes and models. New regulations introduced in 2018 mean that the dealer can no longer increase the interest rate secured with the lender when offering finance to a buyer.

If you choose to get dealer finance, your car payment plan will be similar to a normal car loan and require you to make regular repayments over a set period to cover the cost of the vehicle. Unlike most car loans, many dealer finance options give you the ability to lower your regular repayments by making a lump-sum balloon payment at the end of the loan term.

With a car loan, you receive a lump-sum payment to purchase your vehicle. You can use your vehicle as security against the loan, so you can get more competitive rates than unsecured loans, often from 6-10% p.a. However, if you default on your loan, you can lose your vehicle. Car loan terms are usually for between 1 and 7 years and rates can be fixed or variable.

Dealer finance vs car loan comparison

Dealer financeCar loan
Interest rates
  • May offer lower interest rates than car loans
  • Low interest rates may only be available for specific makes and models
  • Commission for the car salesman may push rates up
  • 0% rate deals may indicate a higher purchase price for the car
  • Lenders offer various rates, which means you can choose the most competitive
  • Using your car as security lets you take advantage of lower rates
Loan term
  • Typically 3- to 4-year terms
  • A balloon payment is usually payable at the end of the term
  • Early repayment costs may apply
Benefits
  • The dealer finance rep handles the paperwork
  • No need to shop around for better offers
  • Balloon payment can help lower your regular repayments
  • Gives you leverage to negotiate the sale price
  • A range of competitive car loans are available
  • Your repayments will see your car loan repaid in full at the end of the term
  • You can choose your lender and your loan
  • Loans are available for new, used and classic cars
Drawbacks
  • You need good credit to be eligible
  • It's usually only available to new vehicles
  • Balloon payments can be large and it can be difficult to save that money while repaying a loan
  • Higher interest rates may apply to certain types of loans
  • Upfront and ongoing fees may apply
Suitability
  • Borrowers that want to buy a new car and have a deposit saved
  • Borrowers that want to shop around and have the option of buying from a dealer or a private seller

What does a balloon payment mean?

As mentioned above, one of the key differences between car loans and dealer finance is the ability to use a balloon payment. Depending on your financial situation and preferences, opting for a balloon payment may help manage how you repay your loan. Adding a balloon payment will reduce the size of your regular repayments but will require you to make a larger lump-sum payment at the end of the loan term. You will not be charged interest on this amount, but you'll need to factor it into your budget when considering which financing option to use.

If you can't afford to pay this amount, you may also choose to refinance your car loan – this is how many dealership finance companies make their money. If you do decide to opt for dealership finance, calculate how much you will need to put away each month to have your balloon payment saved at the end of the loan term and then make sure you save it. This way, you will have your finance paid off and won't have to enter into another refinancing contract.

Example: Dealer financing and car loan side by side

How much can they save?

Neighbours, Julian and Clay, are both in need of a new car. After researching their options and choosing what kind of car they want to get, Julian opts for a car loan while Clay takes on financing from the dealership where he made his purchase.

The cars they purchased ended up being the same price – $20,000 – so who chose the better financing option?

Julian takes out a car loan at a 7.00% p.a. rate for 5 years. Using a car loan repayment calculator, he sees that he will pay $396 in monthly repayments and will pay a total of $3,761 in interest over the course of the loan term.

Clay, who takes on dealer finance, sees that he'll have repayments of $283 over the term of his loan. He'll be borrowing the same amount of money, but his residual balloon payment of $5,000 means he'll only be charged interest on $15,000, resulting in lower ongoing repayments.

The results

Julian continues to pay $396 every month, and at the end of the 5 years, pays his car out in full. His repayments total $23,761 for his original $20,000 vehicle purchase. Clay makes lower ongoing repayments of $283, but when it comes to the end of his 5-year loan term, he's responsible for paying $5,000.

This means he will need to ensure he has this amount saved by the end of his loan term, requiring him to put away $83.33 a month to have the amount saved. All up, with the amount he'd need to save per month and his repayments, he'd be contributing $366 per month to his loan (directly or indirectly). Compared to his neighbour Clay, he'd be saving $1,800 over the loan term.

What else they need to consider

While one financing option saves you more in ongoing repayments, it's not only the interest and savings that you should consider when weighing up your options. Clay and Julian should also look at the features offered to them by their lenders. For instance, are they able to pay out the loan early or make extra repayments? Do they have access to features such as a redraw facility? Do they have special benefits like discounted insurance? Clay and Julian both need to look at their financing options as an entire package before signing on the dotted line.

* This is a fictional, but realistic, example.

Convenience always comes with a price and that extends to dealer-financed car loans. Before settling for what they are offering, you should compare what outside banks and non-bank lenders are offering. In many cases, the terms offered here will far outweigh the low interest rates the dealer is offering.

Always compare the rates and terms offered by a variety of different lenders before committing to anyone. There are numerous tools available to help you with this, such as comparison charts and car loan repayment calculators. As with any loan product, if you want to buy a car on finance, you should make sure that it is within your budget and that you will be able to meet your repayments.

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Frequently asked questions about dealer finance vs car loan

Do all dealers offer finance?

Not necessarily. While a lot of dealerships will offer some form of dealer finance, this will not be the case for all of them. You should always talk to the dealer directly if you're interested in financing your car through them.

Am I eligible for a car loan or dealer finance?

You will need to be at least 18 years old and an Australian citizen or permanent resident to be eligible for a car loan. If you do not meet these criteria, you may still be able to apply for dealer finance, but this will depend on the individual dealer.

Can I move from one option to the other?

While it may make sense to switch from a car loan to dealer finance partway through the agreement, this will generally not be possible. Dealer finance is generally only available on new cars, meaning it will not be available to those who have already taken out a car loan on the vehicle. Furthermore, if you wish to pay off your car loan early, you may face additional fees or charges or may not be able to do so at all. Breaking your dealer finance agreement early may also bring additional fees.

If you encounter financial difficulties or fail to meet your repayments on either a car loan or dealer finance, your car may be repossessed and you may be liable for any outstanding amounts.

Picture: Shutterstock, Getty

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4 Responses

    Default Gravatar
    RanaJuly 10, 2016

    Hi , can you tell me options to get out of dealer finance once signed. I have put in $10 k for a deposit on new car and found s new one $23990 drive away. I sighed the contract and the finance after asking whether I could pay it off early without penalty as when I sell my current car I’d like to put it back on the loan and pay the rest off within 12-18mths. Looking at the contract three days ago I have noticed it is a secured fixed loan and has an exit admin fee, a $15 penalty per month fee for the rest of the 5 years , and a break fee determined by the finance company to recoup their interest losses for me paying it out early !!! The dealer finance guy definitely did not explain those fees !!!! So now the car has arrived at the dealers it’s been paid for but I have not made a finance payment yet to the bank. When I rang them they told me I could perhaps “flat cancel” ?

      AvatarFinder
      ElizabethJuly 11, 2016Finder

      Hi Rana,

      There are cooling off periods for vehicle finance deals but they vary in each state and the maximum is only three days, so this may have lapsed for you. If the financier did not tell you about the extra charges you can complain to them and tell them you were not aware of the charges in the contract. You can also seek independent advice from the credit and investments ombudsmen to see what kind of options you have available to you.

      I hope this helps,

      Elizabeth

    Default Gravatar
    RussellAugust 20, 2015

    should I have to take out no gap insurance and consumer credit insurance for a dealer loan on a new car, also is it right they charge a dealer agency fee and a loan set up fee, finally 7.49 fixed doesn’t seem competitive and why should i agree to pay commission on consumer credit insurance

      AvatarFinder
      ElizabethAugust 21, 2015Finder

      Hi Russell,

      Thanks for your question.

      For insurance, these are generally optional extras and its up to you whether you want to take them on. It’s best to review what the insurance offers and when you will and won’t be covered, what limitations there are, etc. before agreeing to take it out. Dealer agency fees and commissions are quite common with dealer financing as this is how the finance company makes money – you can ask exactly how much commission they are making and how it is calculated on your finance amount to see how much it adds to your loan. For the amount being competitive, you might want to compare it with other offers out there to see if you are getting a good deal.

      I hope this information has been of use.

      Thanks,

      Elizabeth

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