What actually gets financed when you buy a car
The amount financed is almost never the price on the window sticker. Five things move it, and only one of them is the price.
Sales tax is charged where you register the vehicle, at a combined state and local rate that runs from nothing to well over 9%. On a $40,000 car at 6.5% that is $2,600, and unless you pay it in cash it is financed at your loan rate along with everything else.
Fees cover title, registration and the dealer's documentation charge. The doc fee is pure dealer revenue, is capped by statute in some states and unregulated in others, and can run from under $100 to over $700.
Your down payment reduces the amount financed dollar for dollar, as does trade-in equity — but equity means the allowance minus what you still owe on that car. If the payoff is larger than the allowance, the difference is negative equity, and it is added to the new loan rather than subtracted.
The last piece is the trade-in tax credit. In most states sales tax applies to the price less the trade allowance, so trading a $10,000 car into a $40,000 purchase at 6% saves $600 of tax on top of the $10,000 credit. A handful of states, California and Virginia among them, tax the full price regardless — untick the box above if you are in one.
From the buyer's order to a monthly payment
Assemble the amount financed first: L = price + tax + fees − down payment − (trade allowance − trade payoff). Note the parentheses. The trade contributes its net equity, which is negative whenever you owe more than it is worth, and a negative contribution increases the loan.
Then amortise it with the standard fixed-payment formula, M = L·r / (1 − (1 + r)−n), where r is the APR divided by twelve and n is the number of months. This is the same identity behind the mortgage payment calculator and the personal loan calculator; only the scale differs.
Almost every US auto loan is a simple-interest contract, which means interest accrues on the outstanding balance day by day and the schedule behaves exactly like a small mortgage: early payments are mostly interest, later ones mostly principal, and prepaying reduces total interest. The older Rule of 78s, which front-loaded the finance charge and penalised early payoff, is prohibited on consumer loans longer than 61 months and has largely disappeared.
Because auto loans normally carry no origination fee, the APR the dealer discloses under Regulation Z equals the note rate, and you can use the two interchangeably here. That is not true of personal loans or mortgages, where fees drive the APR above the note rate.
Worked example: a $40,000 vehicle with $4,000 down at 7.5% over 72 months
Take the defaults: $40,000 price, $4,000 cash down, no trade-in, sales tax 6.5%, $800 in title, registration and doc fees, 7.5% APR over 72 months.
- Sales tax. With no trade-in the taxable amount is the full price: 40,000 × 6.5% = $2,600.
- Amount financed. 40,000 + 2,600 + 800 − 4,000 = $39,400. Note that this is very nearly the sticker price even after $4,000 down, because tax and fees put $3,400 back.
- Monthly rate. r = 7.5 ÷ 1,200 = 0.00625.
- Discount factor. (1.00625)72 = 1.56612, so (1 + r)−72 = 0.638522 and 1 − that = 0.361478.
- Payment. M = 39,400 × 0.00625 = 246.25, and 246.25 ÷ 0.361478 = $681.23.
- Finance charge. 72 × 681.23 = $49,048.59 of payments, less the $39,400 financed, leaves $9,648.59 of interest — 19.7% of everything you pay.
- Total cost of the car. 40,000 + 2,600 + 800 + 9,648.59 = $53,048.59, against a $40,000 sticker.
Now change one thing. Take the same deal over 48 months instead: the payment rises to $952.65, but the finance charge falls to $6,327.14 — $3,321.45 less. That is the whole term trade-off in one comparison, and it is why the term is the most consequential number in the F&I office.
Reading the result, and the numbers dealers steer you towards
Look at the interest share before the payment. It is the finance charge divided by everything you will pay, and it turns the term decision into one number: 13.8% of payments on the 48-month version of the example above, 19.7% on the 72-month version. Anything much above 15% means the term is doing most of the work of making the payment affordable.
Then check the amount financed against the price. On the default deal, $39,400 is financed on a $40,000 car after $4,000 down — so you are above 98% loan-to-value on an asset that loses value fastest in its first year. This is the mechanism that produces negative equity: the loan amortises more slowly than the car depreciates, and a buyer who trades at month 30 owes more than the allowance. The classic guard against it is the 20/4/10 rule — at least 20% down, no more than four years of financing, and total transport costs under 10% of gross income — which the car affordability calculator tests directly.
Be careful about the two ways a longer term is sold. “What monthly payment are you looking for?” is a question that can be answered by extending the term rather than lowering the price, and an 84-month contract can make almost any car fit almost any payment. Negotiate the out-the-door price first and discuss the payment only once it is fixed.
Finally, arrive with a rate. Credit unions and banks will pre-approve you, and the dealer must disclose the APR on the retail instalment contract, so the comparison is direct. Dealers are permitted to mark up the buy rate the lender quotes them, and a pre-approval is the only reliable way to see whether they have.
Monthly payment per $1,000 financed
| APR | 36 mo | 48 mo | 60 mo | 72 mo | 84 mo |
|---|---|---|---|---|---|
| 3% | $29.08 | $22.13 | $17.97 | $15.19 | $13.21 |
| 4% | $29.52 | $22.58 | $18.42 | $15.65 | $13.67 |
| 5% | $29.97 | $23.03 | $18.87 | $16.10 | $14.13 |
| 6% | $30.42 | $23.49 | $19.33 | $16.57 | $14.61 |
| 7% | $30.88 | $23.95 | $19.80 | $17.05 | $15.09 |
| 8% | $31.34 | $24.41 | $20.28 | $17.53 | $15.59 |
| 9% | $31.80 | $24.89 | $20.76 | $18.03 | $16.09 |
| 10% | $32.27 | $25.36 | $21.25 | $18.53 | $16.60 |
| 11% | $32.74 | $25.85 | $21.74 | $19.03 | $17.12 |
Read across a row and each extra year of term cuts the payment by less than the year before it. Read down a column and the rate matters far more at long terms than at short ones: from 3% to 11% the 36-month factor rises by 12.6% while the 84-month factor rises by 29.6%.
Costs and traps this calculator does not price
- Insurance. Full coverage is required while the car is financed and is not part of the payment. It is often the second-largest line in the cost of running a vehicle.
- Back-end products. Extended warranties, gap insurance, paint protection and tyre-and-wheel plans are added to the amount financed in the F&I office. Each one raises the payment and the finance charge, and each is negotiable or refusable.
- Gap insurance matters more than it sounds. With a small down payment and a long term you owe more than the car is worth for years, and a standard policy pays only the market value if it is totalled. That gap is a real exposure, even though the product is usually cheaper from your own insurer than from the dealer.
- Rebates versus low APR. A manufacturer offers one or the other, not both. Model each separately here — a $2,500 rebate at 7.5% often beats 0% financing on a shorter term, and sometimes does not.
- The doc fee is often not negotiable, but the price is. If the dealer will not move on a $699 doc fee, ask for $699 off the price instead.
- Registration and tax vary by where you register, not where you buy. Buying across a state line does not change what you owe.
- Prepayment. On a simple-interest contract, paying extra reduces the balance and the interest immediately. Confirm there is no prepayment penalty before signing; they are rare on auto loans but not extinct.
Leasing, refinancing and the alternative to financing at all
A lease is priced from a different formula: you pay for depreciation over the term plus a rent charge on the capitalised cost, rather than repaying the whole vehicle. That makes the monthly figure lower for the same car and the lifetime cost higher for anyone who keeps vehicles a long time. Comparing a lease payment against a loan payment tells you almost nothing, because they buy different things.
Refinancing an auto loan is straightforward when your credit has improved since purchase, because auto loans carry no closing costs — so unlike a mortgage there is no break-even to recover. Re-run this calculator with the new rate and the remaining term to see the saving.
And it is worth naming the alternative: buying with cash, or with a much larger down payment, removes the finance charge entirely. On the default deal the finance charge is $9,648.59, which is a real return on cash you might otherwise invest. If consumer debt is competing for the same money, the debt avalanche calculator shows which balance to clear first, and the credit card payoff calculator prices the highest-rate debt most households carry.