How auto loan amortization works
When you finance a car, each monthly payment covers two components: interest on the outstanding balance, and principal that reduces what you owe. In the early months, most of each payment goes to interest. As the balance falls, the interest portion shrinks and more goes to principal. This is amortization — the gradual repayment of a loan through equal periodic payments.
The key insight most buyers miss is how much of the sticker price goes to the lender rather than the car. A $30,000 car financed at 7% over 60 months costs nearly $36,000 in total. At 84 months it costs nearly $38,500. The monthly payment feels smaller but the total cost is significantly higher.
Negative equity is the period when you owe more on the loan than the car is worth. Because cars depreciate fastest in the first 1–3 years while loan amortization is back-loaded (early payments are mostly interest), many buyers are underwater on their car loan for the first 2–4 years. If you sell or the car is written off during this period, you are responsible for the difference.
The amortization formula
Monthly payment = P × [r(1+r)^n] / [(1+r)^n − 1]
where:
P = loan principal (vehicle price − deposit + rolled debt)
r = monthly interest rate = APR / 12
n = number of monthly payments (term in months)
Month m interest = Balance_(m-1) × r
Month m principal = Monthly payment − Month m interest
Balance_m = Balance_(m-1) − Month m principal
Car value (estimated) = Purchase price × (1 − annual depreciation rate)^(months/12)
Equity = Car value − Loan balance
APR (Annual Percentage Rate) is the correct rate to use for this calculation. Some dealers advertise a flat rate, which is different from APR. A 5% flat rate on a 3-year loan is roughly equivalent to 9–10% APR. Always ask for and use the APR. Depreciation rates shown are estimates based on average new car depreciation — actual values depend on make, model, mileage, condition, and market conditions.
Total interest by term and rate — $30,000 loan
| Rate / Term | 36 months | 48 months | 60 months | 72 months | 84 months |
|---|
| 4% APR | $1,876 | $2,511 | $3,150 | $3,793 | $4,441 |
| 6% APR | $2,819 | $3,774 | $4,741 | $5,718 | $6,706 |
| 8% APR | $3,774 | $5,061 | $6,372 | $7,706 | $9,063 |
| 10% APR | $4,740 | $6,370 | $8,044 | $9,762 | $11,524 |
| 12% APR | $5,718 | $7,701 | $9,756 | $11,883 | $14,082 |
Frequently Asked Questions
What is the difference between APR and a flat interest rate?+
APR (Annual Percentage Rate) is the true annual cost of borrowing and reflects the reducing balance — as you repay principal, the interest is recalculated on the lower balance. A flat rate applies the interest to the original loan amount throughout the entire term, so you pay the same interest regardless of how much you have repaid. A 5% flat rate on a 3-year loan equates to roughly 9 to 10% APR. Car dealers sometimes advertise flat rates because they appear lower. Always compare on an APR basis. This calculator uses APR, which is the legally required disclosure in the UK, EU, US, and Australia for consumer credit.
What is negative equity and why does it matter?+
Negative equity means you owe more on your loan than the car is worth. It occurs because cars depreciate rapidly in the early years while amortization is back-loaded: in the first months, most of each payment goes to interest rather than principal, so the loan balance falls slowly. Meanwhile the car loses value quickly. The overlap between the falling loan balance and the faster-falling car value creates a period where you are financially underwater. It matters because if you want to sell the car, trade it in, or the car is stolen or written off, you must pay the shortfall out of pocket. Keeping comprehensive insurance with a gap policy protects against write-off shortfall.
Does a larger deposit significantly reduce total interest?+
Yes — every extra pound, dollar, or euro in the deposit directly reduces the principal on which interest is charged for the entire loan term. A $5,000 additional deposit on a $30,000 loan at 7% over 60 months saves approximately $870 in interest and reduces the monthly payment by about $99. The impact grows with the interest rate: at 10%, the same $5,000 extra deposit saves around $1,260 in interest. The deposit sensitivity table in this calculator shows the exact saving at your specific rate and term. Beyond reducing interest, a larger deposit also reduces the period of negative equity, since you start with more equity in the vehicle from day one.
Should I choose a shorter or longer loan term?+
The right term depends on your cash flow and total cost priorities. A shorter term (36 months) means a higher monthly payment but significantly less total interest — often thousands less over the life of the loan. A longer term (72 or 84 months) reduces the monthly payment but dramatically increases total interest and extends the negative equity period. As a rule: if you can comfortably afford the 36 or 48 month payment, it is almost always the financially better choice. If you must stretch to 72 or 84 months to make the payment affordable, reconsider whether the vehicle is within your budget, as the total interest plus faster depreciation on a newer car may leave you significantly underwater for several years.
What is the benefit of making overpayments on a car loan?+
Overpayments go entirely to reducing principal, which directly lowers future interest charges. Because interest each month is calculated on the outstanding balance, reducing the balance faster creates a compounding benefit: every dollar of principal paid early saves interest on that dollar for every remaining month of the loan. The overpayment field in this calculator shows exactly how many months you save and how much interest is avoided. Important: always confirm with your lender that overpayments reduce the term rather than reducing the monthly payment, and check whether an early repayment charge applies. Some car finance agreements have restrictions on overpayments or charge a fee for early settlement.
What costs are not included in the monthly loan payment?+
The monthly loan payment covers only the principal repayment and interest. It does not include vehicle tax, registration, insurance, fuel, servicing, tyres, parking, or tolls. In countries where sales tax or VAT is payable on vehicles, this is typically rolled into the purchase price or paid separately at point of sale. The true monthly cost of ownership is the loan payment plus all running costs. This calculator's running cost field lets you include these so you can see the real total. A car with a low monthly payment but high insurance and running costs can end up costing significantly more per month than a more modest vehicle with lower running costs.