COVID-19 may have severely curbed car-shopper demand, but for those in need of a new car, the “buy now” signals are glaring.
The incentive du jour is 0 percent for 84 months, which the market hasn’t ever really seen in high volume.
For lenders, interest-free financing is attractive: Lending money is less costly thanks to the Fed rate cut, and subsidized interest rates impact vehicle residuals less directly than cash-back offers. For dealers, longer loan terms grant the opportunity to offer consumers a more favorable low monthly payment and to upsell options such as extended warranties and gap insurance.
But for consumers, the implications are jarring: 84 months is so long, it will take most people a few beats to work out that this equates to seven years. With the average new-vehicle transaction price at $ 37,000 and climbing, long loan terms keep payments manageable, but this sets consumers up for greater financial trouble further down the road.
The reality is many Americans simply don’t want to keep their vehicle that long.
Leasing, which accounts for nearly one-third of the retail market, has been successful because it keeps consumers in their car for what effectively is the honeymoon phase. They’re on to the next car before the ownership experience gets burdensome.
With a seven-year car loan, an owner could be hit with hefty repair bills while still making car payments since the majority of the loan life will fall outside the warranty period.
The second issue is negative equity — it’s ugly and back on the rise.
In March, a record 36 percent of all new-vehicle purchases made with a trade-in had negative equity, with consumers owing $ 5,225 on average. The average trade-in age for vehicles is six years, which means a vast number of consumers are in the habit of moving on to a new vehicle before their current one is paid off.
Longer loan terms put consumers at greater risk of rolling negative equity into their next car loan. This undoubtedly will create tension during their next purchase, which already is a daunting process to many.
Lastly, longer loan terms present the biggest risk to brand loyalty, which exponentially declines the older a vehicle gets. After three years, brand loyalty for a trade-in is 61 percent, after five years 46 percent and at seven years it’s 40 percent.
Sticking with the same brand is logical for a consumer while everything is running smoothly, but as repair bills mount and the monotony of the same vehicle wears on, it’s tempting to try something new.
The 84-month loan is in many ways a Band-Aid fix to a greater issue. Automakers and retailers must weigh the short-term benefits with the long-term risks these loans pose to keeping consumers financially healthy, happy and within their brand family long after the pandemic is behind us.
Jessica Caldwell is the executive director of Insights at Edmunds.com.
