Pay Off Car or Student Loans First: A Debt Priority Guide

Deciding which debt to pay off first can be a daunting task, but it's essential to tackle high-interest debt to save money in the long run. This means focusing on your car loan or student loans.

High-interest car loans can cost you up to 18% per year, while student loans typically range from 4-7% per year. The average car loan interest rate is around 6%, which is higher than the average student loan interest rate.

Paying off your car loan first might not be the best strategy if you have a high-interest student loan. Student loans often have lower interest rates and more flexible repayment terms.

Student loans can be federal or private, and they often come with fixed or variable interest rates. They're unsecured loans, meaning they're not backed by collateral.

Federal student loans qualify for benefits like income-driven repayment and programs to temporarily pause payments, such as deferment and forbearance. They're also eligible for forgiveness programs like Public Service Loan Forgiveness.

Private student loans don't have as many benefits as federal loans, but some lenders will let you modify or postpone payments if you're struggling. You might also explore refinancing to see if you can qualify for a lower interest rate or more favorable terms.

Car loans, on the other hand, are typically secured by your vehicle and have fixed interest rates. They usually have repayment terms of 36 to 84 months.

The average car payment in 2024 is $734 a month, which is significantly higher than the average student loan payment of about $500 when adjusted for inflation.

Paying off high-interest debt first can save you money in the long run. The interest rate on your loans is a key factor in this decision.

If your car loan has a rate of 10.00% and your student loan has a rate of 5.00%, paying off the car loan would save you more money.

Consider the annual percentage rate (APR) of each loan, as it takes both interest and fees into account. The APR is a better measure of the rate you'll pay than the interest rate alone.

Paying off high-interest debt first is a smart move, especially when it comes to loans with high interest rates. A car loan with a 10.00% rate is a prime example of this, as it costs significantly more to borrow money compared to a student loan with a 5.00% rate.

When comparing loans, consider the annual percentage rate (APR), which takes both interest and fees into account. This will give you a more accurate picture of the total cost of borrowing.

To illustrate this, let's say you owe $15,000 on a car loan at a 10.00% rate and a $15,000 student loan at a 5.00% rate, both with five years left on their repayment. If you put an extra $100 per month toward your car loan, you'd save $1,232 on interest and get out of debt nearly a year and a half sooner.

Here are some examples of how much you could save by paying off different types of loans:

In some cases, it might make sense to pay off your student loan debt first, especially if the interest rate is much higher than the rate on your auto loan. You should also consider whether the auto loan lender charges a prepayment penalty for paying the loan off early.

Student loans typically have low interest rates. For example, the average student loan interest rate among all existing borrowers is 5.8%.

Student loans often have lower interest rates compared to other types of loans, such as credit cards or personal loans. In fact, for new undergraduate loans, students can anticipate a federal interest rate of 4.99%.

The two most common debt payoff methods are the snowball method and the avalanche method.

The snowball method involves paying off your smallest debt first, while making minimum payments on your other debt.

This could help you decide whether to pay off your student loan or car loan first, depending on which debt is smaller.

The avalanche method requires you to pay off the debt with the highest interest rate first.

This approach can save you money in interest over time, but it may not provide the same sense of accomplishment as paying off smaller debts first.

For example, if your student loan debt is smaller than your auto loan debt, you'd pay off the student loan first using the snowball method.

When deciding which debt to tackle first, you have two main options: the snowball method and the avalanche method. The snowball method involves paying off your smallest debt first, while the avalanche method requires you to pay off the debt with the highest interest rate first.

The snowball method can be a good choice if you need a psychological boost from quick wins. By paying off smaller debts first, you'll see progress and momentum in your debt repayment journey.

The avalanche method, on the other hand, can save you more money in interest over time. If you have a student loan with a higher APR than your car loan, it might make sense to pay off the student loan first.

To illustrate this, let's consider an example. If you have a $20,000 student loan with a 6.85% APR and a $20,000 car loan with a 5% APR, making an extra $200 payment to your student loan would save you $1,405.20 in interest and reduce the loan term by 22 months.

Here's a comparison of the two loans:

By paying off the student loan first, you'll save more in interest and reduce the loan term.

Prepayment Penalties can be a surprise for some borrowers. Prepayment penalties are charges imposed by lenders for paying off a loan early.

Some lenders charge prepayment penalties for car loans and personal loans, but it's rare. Review your loan contract or truth in lending statement to see if you'll be charged a penalty.

Federal law prohibits lenders from charging prepayment penalties for student loans. This is a relief for students and parents who want to pay off their loans quickly.

Prepayment penalties on car loans can be a significant amount, so it's essential to check your loan contract before making extra payments.

Paying off a car loan before your student loan can have several advantages, especially since car loans don’t have as much repayment flexibility or offer any tax benefits for vehicles that are strictly for personal use.

You'll avoid paying interest on your car loan by paying it off early, which can save you hundreds or even thousands of dollars over the life of the loan.

Paying off your car loan quickly can also free up more money in your budget for other expenses or savings goals.

Since car loans typically have shorter repayment periods than student loans, you can pay off your car loan and start building equity in your vehicle sooner.

Paying off your car loan before your student loan can give you a sense of accomplishment and momentum in your financial journey.

When deciding which debt to tackle first, consider your loan's interest rate. This can greatly impact the overall cost of your debt.

The tax implications of your loan should also be taken into account. This can affect how much you can deduct from your taxes.

Repayment terms, such as the length of the loan and the payment schedule, are also important factors to consider. These can impact how quickly you can pay off your debt.

Ultimately, the decision to pay off your student loan or car loan first depends on your unique financial circumstances.

Your loan's interest rate is a crucial factor in deciding which debt to pay off first. A higher interest rate means more money is being added to the principal balance, so it's usually best to tackle those debts first.

Tax implications can also play a role in debt prioritization. For example, paying off certain debts may provide tax benefits, such as interest deductions.

Repayment terms are another important consideration. Some debts, like student loans, may have more flexible repayment options than others, like car loans.

Your financial goals, such as building an emergency fund or paying off high-interest debts, can also influence which debt to prioritize.

When deciding which debt to pay off first, consider factors such as the balance, interest rate, and lender's prepayment penalty. Paying off a student loan or car loan can free up money for other purposes, but the decision ultimately depends on your unique financial circumstances.

The snowball method involves paying off the smallest debt first, while the avalanche method requires paying off the debt with the highest interest rate first. For example, if you chose the snowball method and your student loan debt was smaller than your auto loan debt, you'd pay off the student loan first.

In some cases, it might make sense to pay off your student loan debt first. This could be the case if your student loan balance is small compared to your auto loan balance, or if the interest rate on your student loan is much higher than the rate on your auto loan.

Here are some scenarios where paying off your student loan debt first might make sense:

To illustrate the benefits of paying off your student loan debt first, consider the example of a $20,000 student loan with a 6.85% APR versus a $20,000 car loan with a 5% APR. By making an extra $200 monthly payment, you'd pay off the student loan one year and 10 months early and save $1,405.20 in interest.

Understanding the differences between student loans and car loans is also crucial. Student loans may be federal or private, and they might come with fixed or variable interest rates. Car loans, on the other hand, typically have fixed interest rates and are secured by your vehicle.

Here's a comparison of the average car loan and student loan payments:

If you have a federal student loan with a 0% interest rate, it's a good time to focus on paying down your car loan. This is because the interest rate on your car loan is likely higher than 0%, making it a more pressing concern.

Paying down your car loan quickly can also help improve your debt-to-income ratio more than paying down your student loans. This is especially true if you're trying to release a cosigner from the car loan.

Here are some scenarios where prioritizing your car debt makes sense:

In these situations, paying off your car loan first can have significant benefits, such as releasing a cosigner or improving your debt-to-income ratio.

Paying off a student loan or car loan can have a positive impact on your financial life, freeing up money for other purposes.

The decision of which one to pay off first depends on your unique financial circumstances.

Paying off your car loan first might be smarter in some scenarios.

You'll want to consider the interest rates of both loans.

If your car loan has a higher interest rate, it's generally a good idea to pay that off first.

Paying off your student loan first might make sense if you have a lower interest rate on that loan.

In either case, it's essential to weigh the pros and cons of each option carefully.

Paying off a loan or reducing the monthly amount and interest rate will take you one step closer to achieving financial freedom.

Review your financial situation to decide which loan to pay off first. This will help you understand your options and make an informed decision.

Calculate how much each option would save you in interest to compare the costs of paying off one loan over the other.

Consider refinancing one or both of your loans to drop the interest rate and your monthly payment. This could be a game-changer for your financial situation.

Both paying off a student loan and a car loan will have a positive impact on your financial life.