More car buyers are stretching out their loans in an effort to make the purchase affordable. Even so, monthly payments keep rising.
A record 25.5% of financed new-vehicle purchases in the third quarter had loan terms of 84 months or longer, up from 21.8% a year earlier, according to a new report from Edmunds, a car-shopping website. The average monthly payment over that same period reached a record $787, up from $756 a year earlier, the data shows.
"Monthly payments are rising because buyers are borrowing significantly more money overall," said Joseph Yoon, consumer insights analyst at Edmunds.
The average amount financed for a new vehicle reached a record $44,664 in the third quarter, up from $42,744 a year ago, according to Edmunds.
The average transaction price of a new car was $50,089 in August, up 1.9% from a year earlier, according to the latest data available from auto-pricing company Kelley Blue Book.
"If you need 84 months just to make the payment fit, that's a potential warning light that the vehicle is out of your budget," Yoon said. "Consider buying used, choosing a cheaper trim with more needs than wants, or saving longer for a higher down payment."
The lengthening car loans come as consumers' budgets are being squeezed due to ongoing inflationary pressures. Additionally, consumer spending outpaced income in August, according to U.S. Bureau of Economic Analysis data released Wednesday.
"The gap has widened for months, funded in large part by growth in financial assets rather than paychecks," said Jeremy Robb, chief economist for Cox Automotive in a weekly auto update posted Monday. "But that gap could become harder to sustain if energy costs remain elevated and the conflict in the Middle East remains unresolved."
High oil prices in the global market have driven U.S. gasoline prices up since the start of the Iran war in late February. The average price for a gallon of regular unleaded gas is $4.36 as of Monday, according to AAA. While down from $4.47 a week prior, it's up from $3.13 a year ago.
Financing costs have offered little if any relief. The average annual percentage rate on new-car loans was 7% in the third quarter, unchanged from both the previous quarter and a year earlier, according to Edmunds data.
However, with bond yields remaining elevated, auto loan interest rates increased "across the board last week," Robb said in his post. The upward pressure on bond yields, which affect the rates that consumers pay on a variety of loans, comes amid persistent inflation and concerns about rising government debt.
"Since most auto loans are pegged to the five-year or 10-year Treasury note, we expect that borrowing costs will increase" in the fourth quarter, said Patrick Manzi, chief economist for the National Automobile Dealers Association, a trade group that represents auto dealerships.
Meanwhile, a record 21.2% of financed new-car purchases had monthly payments of $1,000 or more in the third quarter, up from 19.1% a year earlier, according to Edmunds. Among those buyers with four-figure payments, 69% financed their cars for 72 months or longer.
Stretching out a loan also comes with an extra cost — borrowers generally will pay more in interest over time. The average amount of interest paid over the life of a loan reached a record $9,938 in the third quarter, up from $9,442 a year earlier, according to Edmunds.
Longer loans also mean borrowers build equity more slowly, potentially increasing the risk that they will owe more than the car is worth if they sell it or trade it in before paying off the loan.
"In the first few years of an 84-month loan, almost every dollar of your monthly payment goes toward interest rather than the car's principal balance," Yoon said. "Combine that with standard depreciation, and you're much more likely to stay in a negative-equity position for the vast majority of the loan term."
That's become an increasingly common problem. Nearly 30% of vehicles traded toward a new-car purchase had negative equity in the second quarter, according to separate Edmunds data, meaning the owner still owed more on the old loan than the vehicle was worth. In that situation, the buyer either has to pay off the remaining balance or roll it into the loan for their new car.
