Information provided by auto finance general manager

[Officer737]

I have started researching on buying a vehicle post Ch 7 and had an interesting conversation with the finance manager at a dealership. During the conversation he gave a formula comparing auto financing thru dealerships and simple interest loans such as with CUs. As he explained by him, auto financing thru the dealerships work on "Rule 78". He explained that Rule 78 means that 78% of your monthly paid is applied to the interest of the loan while 22% of the payment goes towards the principal until ALL of the inerest is paid off. Simple interest loans like with a CU is better because more principal is paid that interest , i.e. 10% interest loan (not accurate just an example) with a monthly payment of $400 per month would mean that $40 of the payment does towards the interest and $360 would go towards the principal. I know that most auto financing rakes us over the coals but WOW!!

Another part of the conversation we had was talk about big banks and CUs. Now CUs no longer have to borrow money from the large banks (BOA, AIG, and such). Now they can go straight to the Federal Reserve and not have to pay the "middle man bank's" interest and due to that, the CUs have reduced their interest rates for the customers.

Just information that I thought I would pass on in case it helps anyone.

[sccredit]

He is not 100% correct.  The type of loan he is talking about is not the nor any more and is actually quite rare

[StartingOver10]

---

@sccredit wrote:

He is not 100% correct.  The type of loan he is talking about is not the nor any more and is actually quite rare

---

^^^exactly.

OP, I went to Bankrate.com to check to see how the loan would amortize in your example of 10% interest. The example you gave was a $400/month payment and the rate was 10%. You indicated you thought the interest would be 10% of the payment amount. In your example that would have been $40 according to your calculations.

That is not accurate. The note is usually a simple interest loan where the note rate is X% (in your example 10%) amortized over Y years.  Since you didn't say, I just used random figures:  10% interest; 4 years amortization and $15,000 loan balance. If you put that in the auto calculator you see that the actual payment is $380.44 and the interest is $125 for the first month and the balance goes to principal. As you make each payment, the payment remains the same but the dollar amount of the interest is reduced if you pay on full and in time every month.  Run your own amortization schedule to see.

The rule of 78's is more likely to occur in a Buy Here Pay Here place. You can tell by reading the note which way you are financed.

A simple interest loan is the better way to go because the interest is only charged on the outstanding principal balance.  If you decide to pay off your loan in 6 months, then you only paid 6 months worth of interest.

On a rule of 78's the that is not the case, the entire interest that would have accrued in the entire loan term is due even if you pay it off early.

[Officer737]

Yea I went to bankrate also and toyed around with the numbers, figured he was just blowing blue smoke.