What Is a Simple Interest Loan?

When you borrow money to buy a car, you pay interest to the lender. Usually, interest is charged as a percentage of the loan amount (principal). But what is a simple interest loan, and how does it compare to a compound interest loan? Compound interest accrues on both the principal and the interest from previous periods, meaning you pay interest on interest. Simple interest, on the other hand, is only charged on the principal amount, so you don’t pay any additional interest.

Understanding these types of interest can help you make better decisions when financing a car in the Delphi area. Learn more about how simple interest auto loans work with the team at Lafayette GMC below. We’ll also show you how to calculate a simple interest rate on a loan.

How Does a Simple Interest Auto Loan Work?

Simple interest loans are widely available and include car loans. Wondering how to calculate a simple interest rate on a loan? Generally, car loan interest is calculated daily based on the principal. This daily interest is equal to the annual rate and then divided by 365 (or 366 during a leap year). If you have a loan balance of $10,000 and a 3% interest rate, for example, the daily interest would be about $0.82. 

When you finance a car and make a payment, the money goes toward the applied interest on your account and then the principal balance. Simple interest loans are repaid in predetermined monthly payments. At the start of the loan, more of the monthly payment is put toward interest, and as the interest dwindles, more of the payment is put toward the actual principal balance. 

What Are the Benefits of a Simple Interest Loan? 

The main benefit of simple interest loans is they can save Indianapolis and Frankfort drivers money in interest. You can also reduce the amount of interest on your loan by taking any of the following actions: 

• Paying more than the minimum payment on your loan each month 
• Making additional payments — not just once monthly 
• Paying off the loan before your term ends (make sure your loan has no penalties for early repayment) 

What to Consider About Simple Interest Loans 

Simple interest loans allow borrowers to save in interest, but as with any loan, making payments on time is important. If you make a late payment, you could end up paying more in interest, meaning a lesser portion will go toward your principal. One late payment probably won’t throw you off schedule completely, but if it happens repeatedly, it could take longer for you to repay the loan. Not to mention, the added costs of late fees will make your loan more expensive to repay. 

Explore Your Financing Options in Lafayette

Now that you know what a simple interest loan is, get in touch with us online or at (765) 257-2942 to discuss your financing options in further detail. We can also elaborate on how a simple interest auto loan works if you still have questions. In the meantime, explore car-buying tips from our experts, including how to get lower interest on a car loan.