How Do Car Loans Work?

shutterstock_21255595A car loan is a loan taken out by a potential car buyer, enabling him to pay for the car in a series of monthly installment basis (with interest) over an extended loan tenure instead of paying the car’s entire value upfront, and in full. The loan provider or lending servicer will pay the full amount of the car and in return the car buyer or the borrower will pay them on a monthly basis plus the agreed interest rate.

In a car loan agreement, the bank or the lender typically remains the legal owner of the car until the borrower is finally able to completely pay off or settle the balance owing on the car loan. As part of this agreement, the borrower (and user) will also be responsible for the car’s maintenance, including repairs and regular automobile insurance coverage.

Simplistically, a car loan is like a rent-to-own type of loan where the bank gets paid monthly installment which includes the principal amount as well as the interest agreed at the outset. The legal ownership of the car gets transferred to you, the borrower as soon as the balance (which includes both the outstanding principal and interest amounts) has been paid off.

Typically, there are two types of car loan – secured and the unsecured car loans. Secured car loans are far more common in the Philippines where a borrower pays for the automobile on an installment basis, and when he/ she falls behind in repayment over several months, the loan provider will repossess the car as compensation. With unsecured car loans, the lending bank does not reposses the car, but instead charges a very high interest fee for the remaining tenure of the car loan. The borrower must have a high-enough credit score in order to qualify for an unsecured car loan.

You are not sure if you should take out a car loan or not? Read about pros and cons of car loans!

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