How Simple Interest Car Loans Work

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Contributing Writer

David Topham covers the automotive and auto finance industries as the Content Manager of Auto Credit Express who also contributes to CarsDirect. He was born and raised in Michigan and is a graduate of Michigan State University.


, Contributing Writer - December 27, 2017

Simple interest auto loans are a type of amortizing loan, where a portion of every payment goes toward interest charges while the rest is applied to the principal balance. This formula, which auto loans use, presents borrowers with ways to save money.

How Simple Interest is Calculated

With the simple interest formula, interest is computed daily based on the principal balance, but it doesn't compound. Interest building up daily sounds intimidating, but this can work to the advantage of car buyers. As a buyer pays down their car loan, the amount of interest paid decreases while the amount of principal paid increases – all while the monthly payment stays the same.

Here is how simple interest is calculated using this example auto loan:

  • Car Loan Amount: $18,000
  • Loan Term: 60 months (five years)
  • Interest Rate: 6.00%
  • Monthly Payment: $347.99

Take 0.06 (the interest rate in decimal form) and multiply by the loan balance of $18,000 to get $1,080. Divide that by 365 (the number of days in a year) to get the daily interest charge of $2.96. Multiply $2.96 by the number of days in that particular month (we'll use 31) to get the month's interest charges of $91.76. During the first month of this example loan, $91.76 of the buyer's $347.99 monthly payment would go toward interest, while the remaining $256.23 goes to the balance.

The next month, the loan balance would be $17,743.77, and the same calculations repeat. Multiply 0.06 by $17,743.77 to get $1,064.62. Divide that by 365 to get a daily interest rate of $2.91, and multiply by the number of days in that month (we'll use 30 this time) to get $87.50, that month's interest charges. For this second month, $87.50 of the $347.99 monthly payment goes to interest, and the remaining $260.49 is knocked off the balance.

This pattern of decreasing interest payments and increasing principal payments continues every month.

Taking Advantage of the Simple Interest Structure

The simple interest loan formula presents savvy borrowers with the opportunity to save money in the long run because there are no early payment penalties. Consumers can work toward paying down their balance early to save on interest in the long run.

Here are three strategies borrowers can use to accomplish this:

  • Round Up Payments – Instead of paying $347.99 a month in the example above, the buyer could pay more every month. If they were to round up their car payment to, say, $375 every month, the borrower could pay their loan off faster and save in interest.
  • Pay More When Possible – Extra payments don't have to follow a strict schedule. Buyers can pay extra when they have money to spare to reduce the balance, and less interest will accrue from then on.
  • Payment Splitting – This method involves making payments in two installments each month – half earlier, and the other half around the due date. This reduces the daily interest charges that accumulate between the two payments. Done every month, the money saved can add up to make a worthwhile difference.

The Bottom Line

If you're ready to take advantage of a simple interest auto loan, CarsDirect can help you find financing. The dealerships in our nationwide network know how to help consumers even if they're dealing with credit problems. Start the process by submitting our free and secure car loan request form today.

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, Contributing Writer

David Topham covers the automotive and auto finance industries as the Content Manager of Auto Credit Express who also contributes to CarsDirect. He was born and raised in Michigan and is a graduate of Michigan State University.


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