BackWhat car offers and discounts really mean
Everyone wants a bigger, better car. But what if it comes with a bigger loan and smaller insurance?
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The excise duty cut announced in February seems to have had a positive impact on car makers as car sales rose in May and June. In the interim budget in February, the then finance minister P. Chidambaram had cut excise duty for the automobile sector for the period up to 30 June. On 25 June, current finance minister Arun Jaitley extended the excise duty cut till 31 December. The excise duty on small cars, motorcycles, scooters and commercial vehicles was reduced from 12% to 8%, from 30% to 24% on sports utility vehicles and from 27% or 24% to 24% or 20% on large- and mid-segment cars.
Analysts are optimistic that consumers will head to showrooms. “Factors such as extension of the excise duty cut are a positive for the auto sector. The May and June sales data show that customers are heading to dealerships. We expect the trend to continue thanks to the incentives from the government, banks as well as dealers. The price hike in petrol and diesel will have some impact, but a consumer’s buying decision doesn’t completely depend on just one factor," said Anil Sharma, senior analyst at market research firm, IHS Automotive.
It is not just the government trying to help you buy a car; the lenders, too, are doing so. Usually, banks and other financial institutions give auto loans only at a certain margin of the value of the car, say, 80-85% of the value of the car. However, now banks are willing to lend for the full value of the car.
“It may be a good time for consumers to buy a car since there is more clarity on the excise duty and banks are offering higher loan-to-value (LTV) on car loans. Till May, there was uncertainty about the extension of excise duty cut. Even if we factor in some of that in the June sales numbers and discount it, the data still shows a trend reversal," said Sharma.
If such attractive loan terms and the other offers that car dealers and manufacturers offer are tempting you to buy a car, here are six things you need to know before you give in and take up those offers.
Debt burden
When you approach a bank for a car loan, your bank will normally check three things—your income, ability to pay back the loan, and the value of your car. All these criteria decide whether you are eligible for a 100% car loan.
Now, it may sound great that you can get a loan for the full value of the car, but before you jump for joy, check your debt ratio. This simply means, how much loan can you handle?
“Your total debt ratio should not be more than 40% of your total income. Banks offering a 100% margin should not be the criteria based on which you buy a car," said Rishi Mehra, founder, Deal4loans.com.
Apart from the size of the loan, there are also the loan related charges to think about.
High charges
The interest rate on car loans, at present, is between 10.25% and 15% per annum. But that is not the only cost you have to face when you take a car loan from a bank; there is also a processing fee. Some banks charge 0.50-1.00% of the loan amount, while others charge a flat fee of 1,000-15,000 depending on the loan amount. So, the bigger the loan, the higher can be your processing charges.
Besides this, some banks also charge a prepayment penalty. “You may happen to get a bonus or a lump sum amount and may want to use it to prepay your auto loan. the prepayment charges can be high enough to nullify any benefit that you may have hoped to get by reducing the loan," said Suresh Sadagopan, a Mumbai-based financial planner. However, not all all banks charge a penalty. Make sure you check for all these charges before you take on an auto loan.
Offers and discounts
We tend to buy more during a sale. We buy six shirts instead of three. Why? Because it was cheap! This attitude can cost dearly while buying a car.
“The problem is that they get tempted towards expensive things. You should check for the value of the car after the loan amount. Never buy a car that is beyond your reach; you will end up paying more interest," said Mehra. This means that the “on-road" price applicable to you should include the loan component as well.
If your initial plan was to buy a 5-lakh car, but you see many offers on a car that costs 7-8 lakh, don’t unnecessarily stretch your budget.
Also, car manufacturers usually offer discounts. But if you take a loan at 100% LTV ratio, they may not be willing to extend these discounts. Hence, you not only let go of these discounts, but also take on more debt. Weigh the pros and cons of the two choices—big loan or big discount—properly.
Cost of free insurance
Insurance is a must-buy when you purchase a car. Often, manufacturers are willing to bear the maturity cost of the insurance to push sales.
“For example, the cost of insurance is 100. The manufacturer and the dealer will together pay 99, while the insurer pays 1. This 1 is required as there can’t be a contract in insurance without a payment," said Rahul Aggarwal, chief executive officer, Optima Insurance Brokers Pvt. Ltd. This means that the policy is available almost for free. So should you avail this offer?
“Normally, free car insurance is a standardized plan. The dealers or the manufacturers generally give a plain vanilla policy. If you take this policy, it would make sense for you to take an add-on cover by paying an additional premium. For instance, go for an add-on zero depreciation cover for the car parts that have a high depreciating value," said Aggarwal. So, the insurance that seemingly cost you just 1, in effect costs more than just 1 as you have to spend money on add-on cover.
What should you do?
You must remember that you are taking a loan for a depreciating asset. “Usually a 10-lakh car will be worth 3-lakh after three years. That is how useless your investment turns out to be. You have to understand the depreciating value of cars and then go for a loan," said Sadagopan.
Taking on a huge debt burden only because of offers and discounts does not make sense. Buy a car that you need, and can afford.
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