"LJ909" (lj909)
03/03/2016 at 11:24 • Filed to: None
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"LJ909" (lj909)
03/03/2016 at 11:24 • Filed to: None | 0
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The Morning Shift post this morning got me thinking something regarding auto loans that I’m not sure makes sense to anyone but me. I’ve always though the system of how auto loans are ( or loans tied to anything that depreciates in value) is bogus because of the simple fact that there are so many factors to be taken into account. Like catastrophic break downs or something else. I’ve always thought that the loans should be tied into the car or whatever itself. That way as the value of your car goes down so do your payments. Doesn’t make sense you take out a 33k loan on a car that’s worth 33, but then 5 years later your paying you’re still making payments like what you borrowed for is still worth that much. And yes I realize that your making payments on what you borrowed not on the vehicle itself, it would just make more sense to me if it was set up where you made payments on the vehicle itself and not the loan. Does this make sens to anyone? Or could it work?
jariten1781
> LJ909
03/03/2016 at 11:33 |
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Nope, makes no sense to me. You ask a bank to pay XX amount and then you'll pay them XX-YY over time? Why would any lender sign up for that? They wouldn't be around long if they did.
The Ghost of Oppo
> LJ909
03/03/2016 at 11:37 |
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Say you own a restaurant, and a patron comes in and orders a meal, they then eat half of said meal, when you go to give them their check they tell you they only want to pay for what the remaining part of the meal is worth. See the issue?
Rico
> LJ909
03/03/2016 at 11:37 |
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Impossible. Unless you give the car to the bank at the end. Sounds like leasing would make more sense to you over financing.
Ash78, voting early and often
> LJ909
03/03/2016 at 11:38 |
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You could, in theory, offer a customized product that does just that (and I'm sure some Credit Union already has something like that). But there are so many regulations in consumer lending, you could easily run into situations where your more "favorable" custom payment products were more likely to benefit wealthier customers, so then you get hit indirectly with discrimination and so on. So the best and most understandable system for everyone has always been just to negotiate the amount borrowed, interest rate and the loan term, then leave it at that. Under your proposal, you might have declining payments, but it would probably be very steep at first, then less as time goes on. People are creatures of habit and tend to like the same payment every month, not something that goes from $500/mo to $100/mo over, say, 5-7 years.
RamblinRover Luxury-Yacht
> LJ909
03/03/2016 at 11:39 |
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It doesn’t matter if you spent the money on a car, a Faberge egg, a platinum Chia pet, or whatever, you spend the 33k and have to pay it back. In fact, they’re doing you a favor with a longer term loan when they take the risk that your payments will continue on schedule long enough to catch up with the loss of the car in the meantime - your amount left to pay (and at risk of default) can very readily be more than the car is worth if they had to repo in the first few years. Granted, they also make money off the financing in most cases, but would *you* front-load a loan for heavy payments up front and low payments later on if it might mean scaring off your customer or forcing them to default with too high a payment? In other words, no. This is not a good idea.
Jcarr
> LJ909
03/03/2016 at 11:40 |
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Banks would quickly go out of business if they operated that way.
Think of it this way. In your scenario, you’d be asking the bank to give you $33k, but you’d end up paying them back less than that. They would lose money on every loan where the collateral is a depreciating asset.
BigBlock440
> jariten1781
03/03/2016 at 11:42 |
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They’d make more money in interest. If you’re paying the same monthly payment, say $500, as the loan gets paid down more of that $500 goes to principal and less to interest, decreasing the principal amount at a higher percentage each month. If you decreased payments, you’d still have the same amount going to interest, but less being payed on the principal, further extending the time it takes to pay it off and giving more interest to the bank.
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LJ909
> The Ghost of Oppo
03/03/2016 at 11:46 |
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I see the issue but thats not what I was really saying. I’m saying the payments should adjust with the deprecation of the car itself. So for instance when they go to pay for that meal they pretty much pay for what they ate. They ordered a $22 dollar steak, but then when they go to pay they only ate $16 dollars of it. See what I’m saying? Why still pay full price for something that not worth that anymore. I know it could never work like that but just a though.
There are restaurants out there though that do something similar to what you described. My family and I go to this Korean BBQ restaurant that charges you for whatever food you didnt finish.
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jariten1781
> BigBlock440
03/03/2016 at 11:49 |
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That’d be a terrible product. The duration of the loan would float on the depreciation of the vehicle. Unless you mean, you could structure a loan to decrease payments over time, that'd be possible...but why? Usually a borrower needs lower payments now not 5 years in the future. I suppose there could be a niche market for people approaching retirement.
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BigBlock440
> Jcarr
03/03/2016 at 11:49 |
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The banks wouldn’t go out of business, they’d still get their money. If they kept the same loan length, the first few payments would be much more than they are now. If they kept the same starting payments, the length of the loan would increase and they’d get more money in interest towards the end of the term because the principal isn’t being paid down as quick.
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Ash78, voting early and often
> LJ909
03/03/2016 at 11:49 |
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Some larger loans already operate this way, but it’s usually voluntary on the part of the borrower — it’s called principal PLUS interest (as opposed to the usual principal AND interest). It’s all the interest due, plus a fixed amount of principal equal to the total loan divided by 60, or whatever number of payments. That way, the payment is higher up front, but you have a much shorter period of negative equity. Unfortunately, low payments and predictable loan structures are what get shoppers in the door.
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LJ909
> Ash78, voting early and often
03/03/2016 at 11:49 |
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Your right. I noticed that people don’t like that when I used to sale cars, even if the payment was going down. Just though it would be a good idea to have payments that adjust to the cars value. People paying $600 a month for a Yukon Denali they bought 6 years ago for 55k and now its only worth less than half that with the same $600 a month payments is weird to me.
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BigBlock440
> jariten1781
03/03/2016 at 11:51 |
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It would be terrible for the consumer, not for the bank. If decreasing payments was going to happen, it would work in the banks favor. Unless it was a fixed interest rate and the rates shot through the roof I guess.
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LJ909
> RamblinRover Luxury-Yacht
03/03/2016 at 11:52 |
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But it might be appealing to some consumers if they start off paying say 550 a month and then see that a few years down the road, as they vehicle depreciates they would be paying less than half that. But like I said I know this would never work in the real world seeing as the banks and finance companies would come up with something else on the other end like a high apr or something to make up the difference.
Master Cylinder
> LJ909
03/03/2016 at 11:53 |
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It could work, technically, but no one would want to do it because your payments in the early part of the loan would be huge. I don’t know what the advantage would be.
The way it’s already set up appeals to most people, and I guess if you really wanted to, you could just voluntarily pay over and above the minimum monthly payment in the beginning of a standard loan.
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LJ909
> Jcarr
03/03/2016 at 11:54 |
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You say that like thats a bad thing.
Im saying that the loan should be tied into the cars value. Or some variation. If you think about it the collateral being the depreciating asset makes more sense for us (the consumer) but it doesn’t for the banks because they make their money on interest. Thats the sad reality.
haveacarortwoorthree2
> LJ909
03/03/2016 at 11:55 |
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Again, they ordered a $22 piece of meat. The remaining meat now is worth $0 because it can’t be reused. Why is the risk of loss on the restaurant when they provided exactly what you ordered? Or in the car context, you borrowed money from the bank for a purchase (which just happened to be a car). The bank loans you what you asked for, and you use it to buy a car. The bank takes a security interest in that car to help ensure it ultimately recovers what it loaned to you. The bank has nothing to do with what happens to the car next (although it certainly hopes the car doesn’t depreciate faster than your loan balance declines, even though everyone knows it will in that first year or so).
Now if what you’re suggesting is that payments decrease over time, not a bad idea ... but no one would do it. Consumers would not sign up for a loan with payments of $800/mo in Y1, $700 in Y2, $600 in Y3, etc. They would still flock to banks offering a flat $650/mo payment over the life of the loan because they don’t want to be locked in to the higher payment.
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LJ909
> Master Cylinder
03/03/2016 at 11:56 |
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Why would the payments be huge up front? They couldn’t stay the same since it would be tied into the assets value?
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Jcarr
> LJ909
03/03/2016 at 11:57 |
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Yes, but they must recoup the money that they’ve given you. They’re not going to make back the difference in the value of the car over time on interest alone.
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Jcarr
> LJ909
03/03/2016 at 11:58 |
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Also, you do know that the money that banks use for lending comes from the deposits they have on hand from other customers, right? If they go around losing that money, people are going to stop depositing.
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LJ909
> haveacarortwoorthree2
03/03/2016 at 11:59 |
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Yea that’s what I’m suggesting. The payments decrease over time according to the value of the car. So in the beginning (just for example) on that 55k car you’re paying 550 a month (with favorable credit or whatever). In two years time, with that car being worth say 38, payments adjust accordingly for whatever 38 a month would be etc. But I know no one would do it because a lot of these cars drop so fast the calculations needed to adjust the payments wouldn’t be able to catch up.
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RamblinRover Luxury-Yacht
> LJ909
03/03/2016 at 12:04 |
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Most customers capable of doing what you’re talking about (front loading their payments) do that another way - short term saving up and putting in a big down payment - leading to smaller periodic payments. Lenders don’t really have much interest in doing things that way because if you front load your payments and taper them off, it means the least interest accrued on the loan possible. Let me explain: when the sum is largest it earns the most interest for the lender, when it’s smallest it earns the least, and because interest builds on itself, starting out by making big payments absolutely NUKES the ability of the loan to pick up interest before it dries up to a trickle. Ever notice that the lenders who *do* offer “0% interest”for a period usually pair it with low or zero down offers and/or “zero payments until x” offers? That’s because they don’t *want* you to pay down the loan in the meantime and nuke the interest the loan will earn in future.
In short, it doesn’t work. More to the point, in addition to making it hard to get individual customers into loans for large sums because of the huge starting payments, it’s completely at cross purposes to business use as well. Businesses can often deduct both loan interest *and* depreciation on business resources, so *any* loan (not only for cars, but for multi-million dollar equipment) is easier for a business to manage, afford, and offset in taxes under the simple regular payment model. There’s no reason for the loan industry to do anything differently, basically.
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Master Cylinder
> LJ909
03/03/2016 at 12:05 |
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No lender is going to give you (for example) $50,000 to buy a car and agree that you will only have to pay back whatever thr car is worth at the end of a 5 year period. They’d go out of business. So you’d still end up having to repay the total borrowed amount (plus interest). Which means either having much steeper payments in the beginning that taper off, or having similar payments that taper off, with a much longer loan term.
I’m sure you could probably find some lender somewhere that would do it, but why? You bought a $50,000 car using $50,000 of the bank’s money. I don’t see why repaying that after the $50,000 car is only worth $30,000 is an issue.
Basically, the solution is to buy a used car that has already depreciated. That way, you end up repaying a $30,000 loan on what ends up being more like a $22,000 car.
Either way, though, by the end of the loan term you do still have mostly equity in the car, even if it is worth less than it was when you bought it. Actually being upside down on a car is probably more likely in the beginning of the loan term.
Shane MacGowan's Teeth
> LJ909
03/03/2016 at 12:06 |
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Because all the bank cares about is that they paid $33k, and they want that and the interest back. So, if the length of the loan stays the same, but the tail end payments will drop, then the early payments would have to go up.
And you’re looking at it the wrong way. You aren’t paying the loan off for the car. You’re paying rent on money they gave you access to. That value really doesn’t change much.
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LJ909
> RamblinRover Luxury-Yacht
03/03/2016 at 12:08 |
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Thank you, you pretty much covered everything I was wondering about.
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The Ghost of Oppo
> LJ909
03/03/2016 at 12:11 |
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Some restaurant doesn’t charge you for food you don’t eat?! So they either reuse food or they will be out of business soon.
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LJ909
> The Ghost of Oppo
03/03/2016 at 12:14 |
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No I see it as they are trying to recoup their losses. It isnt much. Not over $10 bucks. But people have no problem with it.
CAR_IS_MI
> LJ909
03/03/2016 at 12:27 |
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SO lets work through this...
You loan me $30,000 for a car and give me 5 years to pay it back (for the sake of this exercise we will assume 0% interest).
5 years = 60 months
30,000 / 60 = 500
So I agree to pay you $500 every month for the next 5 years for a car that is worth $30,000 at the time of sale. Theoretically YOU just paid brand x $30,000 and gave me a car.
Average first year depreciation on all new vehicles is 19%.
100% - 19% = 81%
$30,000 * 81% = $24,300
Now you have two ways of looking at this and I am not 100% sure what your though process is.
Option 1) You took out a 5 year loan but now the car is now worth $24,300 so your new loan will be worth 5 years. 24,300 / 60 months = $405.
Option 2) You took out a 5 year loan and the car is now worth $24,300 so your new loan will be for four years. 24,300 / 48 = $506.25
To further help me explain, below are two table for each option assuming a stagnant 19% depreciation value annually, with an initial 60 month term:
_______________________________________
Option 1)
————-Car Value——— Payment——Total paid to lender
Start——— $30,000———-$500———-$0
Year 1——-$24,300———-$405———-$6,000
Year 2——-$19,683———-$328———-$10,860
Year 3——-$15,943———-$265———-$14,796
Year 4——-$12,913———-$215————$17,976
Year 5——-$10,459———-$174———-$20,556
At this point I will point out you innitially agreed to pay the $30,000 back in 5 years, but here, at the end of 5 years, you have only paid back $20,556. Lets continue and see how long it would take to pay back the $30,000. Remember, this is without any interest, so real world, you would owe much, much more.
Year 6——-$8,471————$141———-$22,248
Year 7——-$6,861————$114———-$23,616
Year 8 ——$5,557————-$92———-$24,984
Year 9——-$4,501————$75————$26,088
Year 10——$3,645————$60————$26,988
As you can see, 10 years in and you still have yet to pay $30,000. So just how long would it take to pay back the $30,000? Based on a stagnant 19% annual depreciation, after 20 total years, your car would be worth $441, and you would still owe $580, and you monthly payments would total under $100 annually. The initial $30,000 would not be paid off for over 30 years, at which point the car would be worth virtually nothing.
__________________________________________
Option 2)
————-Car Value——-Payment——-Total Paid to Lender
Start——-$30,000———$500————-$0
Year 1——$24,300———$506————-$6,000
Year 2——$19,683——- $546—————$12,072
Year 3——$15,943———$664————-$18,624
Year 4——$12,913———$1,076————$26,592
Year 5 ——$10,459——- $0—————-$30,000
At the end of 5 years you would have fully paid back your initial $30,000 loan, however, your payment will have increased by more than double, while most peoples disposable income does not double in a 5 year span.
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The Ghost of Oppo
> LJ909
03/03/2016 at 12:31 |
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So what what you are saying is for example is you want to pay 10% yearly in payments based on the current value of the car in that year? You do realize that will means it will take approximately 6 times longer to pay off the debt?
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The Ghost of Oppo
> LJ909
03/03/2016 at 12:33 |
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What?! WHAT?!?!?! The only way they can recoup their loss is by RECYCLYING THE FOOD
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LJ909
> CAR_IS_MI
03/03/2016 at 12:43 |
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Excellent break down, but my thought process was assuming that it wouldn’t technically be a loan anymore. I’m looking into the amount being tied directly into the vehicle.
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haveacarortwoorthree2
> LJ909
03/03/2016 at 12:49 |
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You’re either still not being clear or I’m just not understanding you. Is the bank getting bank all the money it loaned you at the agreed-upon interest rate? And btw, you know the interest rate on a deal like this would be higher because it takes the bank longer to recoup its money (or the first year’s payments will be astronomical).
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CAR_IS_MI
> LJ909
03/03/2016 at 12:53 |
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So if its not a loan, then what would it be? How would you propose a transfer of funds.
Arrivederci
> LJ909
03/03/2016 at 13:26 |
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I’m not sure you understand how lending works. Let’s do a quick example using a new Mazda6 Grand Touring. You walk into Mazda and negotiate an out the door price of $30,000 and you have arranged financing at 2.9% for a 60 month term. This would result in payments of roughly $537.73 per month for 60 months, so you’d have a paid off car in 2021.
If I’m understanding you correctly, because the Mazda would be worth, say, $23,000 when it’s one year old, you’re thinking the bank should ask you to pay less ? At this point, you would still owe $24,342.45 on the car, which is more than it’s worth. Interest in car loans is front-loaded, meaning you are paying more interest on your loan initially than at the end of the loan. If you want to get lower payments, you would have to refinance. Banks do actually do this.
Let’s say that you find a bank that will refinance your loan at the same 2.9%. I doubt anybody would do this, but let’s just see for the sake of argument. The only way your payment would go down is if you increased your term and took out another 60 month note. In that case, financing $24,342.45 (assuming no bank fees) for 60 months would result in a payment of $436.31, but you’d be one year further away from paying off your car, now in 2022.
Now let’s fast forward another year. Your two year old Mazda may now be worth about $18,000, but you would still owe $19,751.57 with four years remaining on your car loan. Say you find another bank to refinance your car loan, same terms (2.9% for 60 months and no fees). Your payments will drop to $354.02, but again, you’d be a year further out from paying off your car, now in 2023.
We’ll fast forward one more year. Your three year old Mazda will probably be worth about $15,000, but you will now owe $16,026.26 and have four years of remaining payments before it is yours. Say you find another bank to refinance your car loan, same terms (2.9% for 60 months and no fees). Your payments will drop to $287.25, but again, you’d be a year further out from paying off your car, now in 2024.
Now, had you kept your original payment schedule, after the second year, you would have only owed $18,518.64 (vs. $19,751.57). After the third, it would only be $12,523.67 (vs. $16,026.26).
Your plan would ensure that you’re always upside-down on your loan, meaning you owe more than the car is worth. This is great until you have to sell or replace the car. If you lose your job after the third year, you’ll need to get $16,000 out of your Mazda when someone may only pay $15,000. Had you kept your original payment schedule, you’d net $2500 from the sale instead of coming up with cash out of pocket to get out from under your loan.
gmporschenut also a fan of hondas
> LJ909
03/05/2016 at 23:55 |
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what you’re describing is a auto lease.
MontegoMan562 is a Capri RS Owner
> LJ909
10/03/2017 at 10:03 |
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Messaged you on a way out dated post. Email me at cwelsh562@gmail.com in reference to our chat elsewhere.