Financing a car can be as stressful as driving in peak hour traffic. You need to have your wits about you so that you take the route that's best for you.
If you want your bank to finance a vehicle for you, you will probably have to buy the vehicle from an approved dealer. When you buy a vehicle in a private sale, you buy it voetstoets (which means "as it is" and without any guarantees), so banks will be very selective when it comes to financing such deals.
Before financing a car through a private sale, the bank will first assess whether the value of the vehicle is market related. It will also require that the seller provide proof of ownership to ensure that the car is not stolen and to establish whether there is money owing on it.
The bank will pay the seller unless the seller owes a vehicle finance house, in which case the bank will pay that institution directly.
Finance options
When it comes to borrowing money to pay for a set of wheels, you have three basic credit financing options:
- An instalment sale;
- A lease agreement; and
- A financial rental agreement.
The most important difference between the instalment sale and the other two - leasing and rental - is that with an instalment sale, ownership at the end of the term is automatic. With a rental or lease agreement, you have the option to buy the car from the bank at the end of the contract term.
If you buy a car for private use and do not receive a car allowance, you can only finance your car through an instalment sale agreement.
With an instalment sale, the vehicle only becomes yours once you have paid off the full amount owing. While the instalment sale agreement is in force, the car belongs to the bank, even if it is registered in your name. The bank therefore has a right to take possession of the vehicle up until the time it is paid for in full, but is unlikely to do so, unless you default on your repayments.
Until the vehicle is paid for, you cannot sell it without the bank's consent. If the bank allows you to sell the vehicle, make sure you sell it for at least the amount that you still owe to the bank. If you do not, you will have to pay the bank the difference out of your own pocket.
Car allowance
A business user is someone who receives a car allowance, uses their vehicle for business purposes and/or is able to claim tax deductions. A business user can finance a car by instalment sale, lease agreement or a financial rental contract. The main difference between lease and rental options is the way that VAT is calculated on the purchase price.
Used cars
You can finance either a new or a second-hand car, but the age of a vehicle is a deciding factor in whether or not the bank will grant you finance.
In general, banks are unlikely to finance a vehicle which is older than five or six years, because a vehicle's value decreases rapidly after five years. The bank's concern is that the value of the car may be lower than the amount you owe the bank.
Deposit
When you buy a vehicle under an instalment sale agreement, in terms of the Credit Agreements Act, you have to put down at least 10 percent of the purchase price as a deposit. Depending on the bank's credit policy, it may require a deposit of more than 10 percent when financing a used vehicle. This deposit requirement does not apply if you receive a car allowance, in which case, you can negotiate the deposit amount with the bank and you may be able to get 100 percent finance from the bank.
Loan term
The Credit Agreements Act stipulates that the maximum period over which you can repay a vehicle loan is 54 months.
If you receive a car allowance, you are exempt from this restriction and can ask the bank for more time to pay off the car. While there is no legal limit to how long you have to repay your car, banks typically allow you up to 60 months, although nothing prevents a bank from giving you a longer repayment period.
Remember that while the monthly repayments on your car loan may be lower, the longer the contract period, the more the car will ultimately cost you because you are borrowing money for a longer period of time and paying more in interest.
Interest
Bear in mind that when you buy a car from a dealer, he or she may try to steer you in the direction of a particular bank because most banks pay dealers a commission for the business they introduce to the bank. There is no harm in getting quotes from dealers, but you should also shop around for a loan yourself.
If you receive a car allowance, banks will generally offer you an interest rate which is linked to the prime lending rate. This means that your interest rate will fluctuate in line with the prime rate.
However, you may be able to negotiate a fixed interest rate on your vehicle loan. With a fixed rate, the interest rate, and therefore your instalments, will remain the same for a predetermined period, which may differ from the loan term.
The interest rate the bank charges you depends on your personal financial circumstances and whether the bank regards you as a risky client or not. Clients can pay an interest rate from the prime lending rate (currently 17 percent) to the maximum allowed under the Usury Act (currently 29 percent for loans of less than R10 000 and 26 percent for loans of more than R10 000). Most bank clients can expect to get vehicle finance at between 17 percent and 20 percent (the prime rate plus three percent). The Usury Act applies to all money lending transactions including instalment credit, leasing and financial rental agreements.
Interest on vehicle loans is calculated in advance for the term of the loan, added to the capital and divided into equal monthly instalments.
You can pay the outstanding debt on a vehicle in full (that is, in a lump sum) before the end of the loan term. In this case, you will get a reduction in interest that would have been due for the remainder of the term.
The bank may, however, request a 90 days notice that you intend settling the loan. If you don't give the bank 90 days notice, you may be charged 90 days interest.
You can also save on interest if you pay more than the monthly instalment on your loan, because you will pay your loan off sooner. But paying extra each month is not as beneficial as paying a lump sum to settle the loan. This is because of the way that interest is calculated on car loans.
Balloon/residual payments
A balloon payment is a way of deferring a percentage of the purchase price until the end of an instalment sale, lease or financial rental agreement. You, as the borrower, have to pay this to the bank.
You may sometimes hear a balloon payment referred to as a residual payment. Some banks regard a residual payment as the amount payable at the end of a specific type of lease agreement.
The idea of a balloon payment is to link the monthly repayments to the usage of the car and create a payment equivalent to the anticipated market value of the car when it is sold.
Generally, the effect of the balloon payment is lower repayments than would be the case if there was no balloon payment involved.
There are two major disadvantages of balloon payments:
- The car will cost more because you pay off smaller amounts and hence are charged more interest; and
- There is a risk of the market value of the car being less than the balloon amount at the end of the contract. So if you want to sell the car, the selling price may not be enough to cover the outstanding loan.
End of lease or rental options
If you opt for a lease agreement, you have three choices at the end of the contract:
- You can hand the car back to the bank;
- If you do not have a balloon payment to make and have kept up to date with your repayments, the vehicle is transferred into your name; or
- If you have a balloon contract, you can pay the bank the outstanding amount and take ownership of the car. If you do not have the money to make the balloon payment, the bank may allow you to refinance the outstanding amount, but there is no guarantee that it will give you another loan. If the bank does agree to give you another loan and your initial loan term was five years, don't expect more than 12 months to repay the second loan.
Insurance
Despite the fact that the vehicle belongs to the bank until it is fully paid, it is your responsibility to insure it against theft and damage. The bank will insist that the vehicle is fully insured for at least the duration of the loan agreement. You can arrange your own insurance or you can ask the bank to do it for you.
Under the Long and Short Term Insurance Acts you are free to choose your insurer. If you already have short-term insurance cover, possibly on your possessions, you can amend the policy to include your vehicle.