Car financing is a rather broad topic, which deals with various economic ways to allow someone to buy a car, without having to pay the whole price at once, but to pay the sum over time, in equal monthly installments, plus the interest which is applied on the overall amount of money. It is used in both private and business sectors, and, basically, it allows the initial owner of the car to be compensated immediately for the car in question. The financing in each sector differs, since businesses have some options which allow them slightly more beneficial terms for taking a loan, but all financing options are available to either sector.
There are many different car financing options available, but they can be arranged into three major groups: straightforward car loans, hire purchase, and car leasing.
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1) Car loans
This is the most basic kind of financing. It functions as a kind of debt, which offers the possibility to borrow an amount of money you need at the moment from institutions like banks or credit unions and then paying that amount back over the course of time to that institution. The amount of money you borrow, called “the principle”, is lent to you at a cost, called “the interest”, which is added to the “monthly installment” payments. Monthly installments are the same amount every month, and depend on the amount of money you borrow, and the interest rate, which is the percentage of the principle.
2) Hire purchase
Hire purchase aka. “closed-end leasing”, represents a legal contract where the lender actually buys the car for you and then the borrower will return the money over the course of time, by, basically, renting those goods from the lender until the loan is paid off. When the full amount of money, plus the interest, has been repaid through the monthly installments, the borrower gets ownership of the car. It is basically a kind of leasing, rather than borrowing and so banks are not involved in this. It is used with both car financing and home financing. This kind of loan was developed in the United Kingdom, and it is now used in many countries around the world, including the United States, Australia, Canada, China and India. Leasing companies like it because they retain ownership, have a steady income and do not have to go through the legalities of foreclosure, if the payments aren’t made on time, since they retain ownership.
3) Car leasing
Car leasing is another way of acquiring vehicles without having to pay the whole amount of money up front. It is usually offered by car dealerships and it allows the customer to get the use of the car, for a specified amount of time, which he will pay for monthly, basically renting the car. The major difference betweeen leasing and “hire purchase” is that when the lease time is over, usually after 2, 3 or 4 years, the customer returns the car to the dealership rather than taking ownership. It offers benefits for the both parties involved, as the buyer pays less monthly than he would with the loan (because of the residual value), and the seller has a monthly profit for the car that they can later sell through vehicle re-marketing and, as the buyer will use the car for shorter period of time than when he buys a car, it ensures regular customers and a steady stream of used cars for the seller.
Each of these options offer various advantages and disadvantages, but all are ways that allow you to buy more car than you can afford to pay for immediately. But on the flip side each costs more in the long run, in interest, than if you had bought the car outright in the first place. Each represents creating a debt and unless the debt is for a legitimate business purpose it is considered “bad debt” by Robert Kiyosaki author of the “Rich Dad” books. If the car is used for a legitimate business purpose however, and the vehicle creates more income than it is costing you in interest, it would be considered “good debt” by Kiyosaki. See: The Wealthy Buy Assets, the Poor Buy Liabilities, and the Middle Class Buy Liabilities Believing They Are Assets for more information.
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