Car Loan Guide: When To Take Cash Back Over A Lower Rate

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Summer is here, and so are the ads for new cars and trucks -- which means your dilemma is going to be whether you can afford one, and if so, what's the best method of payment.

The summer months represent peak sales season for cars and trucks, according to the National Automobile Dealers Association.

Despite high fuel costs, Americans are still buying: The industry experienced only a 2.5% drop in total sales between 2006 and 2007, and NADA analysts expect a similarly small decline through 2008.

Many dealers still offer the tried-and-true package of cash back or low-interest financing. You rarely get to have both, so choosing the one that makes the most financial sense for you is important. Use the Rebate vs. Financing calculator from BankingMyWay.com to help figure out which option provides the best savings in the long run.

To use the calculator, you will need to know the sticker price of the car you're considering, the down payment required to get the incentive package, the term of the auto loan you'll use to finance the purchase and the sales tax applicable where you live. If you're trading in an old car, you will also need to enter how much you still owe and how much you are getting for the trade-in.

Next, enter the details of the incentives: the amount of the cash rebate and the rate the dealer is offering as low-interest financing.

You also need to know the going rate for auto loans in your area (you can find that out in the auto loan section of BankingMyWay.com.

Say you live in New York, and the rising cost of oil has you eyeing a more fuel-efficient ride costing $20,000.

The average rate on auto loans in the Empire State is about 6.66%, and your local dealer is offering a choice between 1.9% financing on a 48-month loan or $2,000 in cash. To get the dealer incentives, you'll have to put $1,500 down.

Assuming you don't have a trade-in, choosing the cash rebate would save you $404 more over the life of the loan than taking the low-interest loan. You'll pay a lot more interest by going this route -- $1,755 more in total, assuming you don't refinance or make any prepayments.

Since taking the cash rebate reduced your loan amount by $2,000, you've reduced the amount of your principal payments -- and your total cost for the car -- significantly. If your rebate was just a little bit lower ($1,500 instead of $2,000, for example) then refinancing would be the better choice, with savings of $212.

Taking the rebate is often the better decision, since you must hold a relatively long-term loan in order to see the benefits of low-interest financing. That's why dealers tend to offer incrementally higher rates for longer-term loans: While you may be able to get 1.9% financing on a 48-month loan, the rate may be closer to 2.5% or 3% on a 60-month loan.

The difference in savings between low-interest financing and a rebate can be just a couple hundred dollars. By calculating your savings beforehand with the help of the online calculator, you'll be sure to make the right decision.

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