When you see an offer that implies you’ll get something for nothing, like 0% annual percentage rate (APR) auto loans, it automatically raises a red flag. Is there a catch? Is it possible to get a loan and pay nothing for it?
Many car dealers are extending this offer, so it is possible. However, there are a few things you should know. Here’s how 0% financing works and how to figure out if it’s the best option for you.
Are 0% APR auto loans really interest-free?
0% APR auto loans are what they say they are. If approved, you can make payments on your new car over a set term without having to pay any interest. However, there IS a catch, and part of it is that you have to get approved.
The companies giving out these loans only approve well-qualified buyers with premium-rated credit. So, if you don’t meet the requirements, you can’t get the deal.
Who offers 0% APR auto loans?
“Let’s lend money and charge nothing,” said no bank ever.
It’s generally the car manufacturer’s finance companies that offer this type of loan. Even if they’re not making money on financing, the manufacturers are making money on the sale of the car, so they still have a profit margin whether they charge interest or not.
Sometimes manufacturers will partner with third-party dealers, as well. Dealers can benefit from offering 0% financing because it’s an attractive offer to prospective buyers, which would entice them to come in.
Why do dealers offer 0% financing? What’s the catch?
For starters, manufacturers aren’t going to offer these promotions on all cars.
Mike Arman, an auto finance and mortgage expert, says, “Zero percent car loans are offered when a manufacturer needs to make a bunch of cars go away ASAP. It means the car maker has a problem of some sort.”
Typically, this is caused by an overstock of cars that aren’t selling or are about to be discontinued. For the manufacturer, it’s better to sell cars with 0% financing rather than not selling them at all.
The second catch to look out for is a cost increase somewhere else in the deal, which is used to recover the lack of interest being charged. Arman says, “Since carmakers hate to lose money, and dealers hate it worse, the cars offered for zero percent may have the selling price marked up to recover the lost profit from the financing.”
He adds, “The sales people may also be instructed to offer less on the trade-ins to recover the lost profit from the financing, or to try really, really hard to sell high-margin items.”
There are many moving pieces at play when purchasing a car. Typically, the car salesman has more experience with those pieces than the consumer. As a result, you should approach the offer cautiously. Now, let’s look at an example of how the car cost can be manipulated.
0% APR auto loans vs. rebates
One of the popular ways that manufacturers are presenting 0% financing today is by also providing a second offer with a higher interest rate and a cashback rebate (which must be used toward the price of the car).
Mike Gnitecki bought a new Toyota Prius C last month and says, “I had a choice of either a 0% APR loan or $1500 cash back from Toyota (to go toward the purchase price). The Toyota dealer told me that Toyota would only let me choose one of these, not both.”
For example, at the time of publishing this article, Toyota offered the choice between a $2,000 cash back or 0% APR financing. This offer varied depending on the zip code you entered on the website.The main takeaway is that you usually have a choice. Pay more for the car purchase price and pay no interest, or pay less for the car and pay more in interest.
How to calculate whether a 0% APR or a rebate is the best deal
Identifying the best deal will depend on your credit, the interest rate you are offered, where you live, and the terms of the loan. “You need to run the math both ways. Depending on your final purchase price, regular interest rates & term, paying zero percent might cost you more,” says Brett Anderson, President of St. Croix Advisors.
The table below shows how to do the math when comparing loan options
As you can see, the total cost of an auto loan will vary depending on the interest rates you qualify for. In the example above, you’re better off taking a $2,000 rebate on a $27,000 car if you can qualify for a 2.5% APR loan.
Another thing to consider is you don’t enjoy the full benefits of a 0% APR until the end of the loan. The benefits of a rebate, on the other hand, are immediate. If you plan to sell or trade the vehicle before the loan term ends, this will reduce the savings of a 0% APR loan, and you may be better off taking a rebate.
The only way to figure out which deal is the best for you is to see what rates you qualify for, and then add up the numbers to find out the total cost of the loan. You want the best combination of low payments, low total cost, and minimal fees.
SuperMoney’s loan offer engine helps you review and compare a variety of third-party auto lenders on your own to see if one can offer you a better deal. With a low-interest loan, you can walk into the dealership as a cash buyer, which can give you leverage in negotiating down the price of the car.
Pros and cons of 0% APR auto loans
Here’s a quick overview of the pros and cons of 0% APR auto loans.
Compare the pros and cons to make a better decision.
- No interest financing means you only pay for the car.
- You may be able to get a lower monthly payment and total cost than is otherwise possible.
- Opting for a longer repayment period won’t cost you more.
- You have to be well-qualified with premium credit to get approved.
- It may only be available on cars that are not selling well for some reason.
- You have to watch out for dealers hiking up prices in other areas to compensate for the lack of interest.
- It may be cheaper to take a rebate with a higher interest rate when given the option between the two.
- You may be able to get a better deal with third-party financing.
How to get the best deal on your auto loan
While you don’t want to prematurely rule out the 0% financing option, you also don’t want to jump on it too quickly. It’s a good idea to shop around and compare your options. If you qualify for 0% APR financing at a dealership, you also will qualify for excellent rates with other lenders.
Find the car you want and then use SuperMoney’s auto loan offer engine to easily see what rates, terms, and monthly payments you qualify for with a variety of lenders. Compare apples to apples to decide which is the best deal.
Once you find it, compare the numbers against a 0% financing offer or a cash-back offer, and you’ll be able to see which route is best for your specific situation.
Jessica Walrack is a personal finance writer at SuperMoney, The Simple Dollar, Interest.com, Commonbond, Bankrate, NextAdvisor, Guardian, Personalloans.org and many others. She specializes in taking personal finance topics like loans, credit cards, and budgeting, and making them accessible and fun.