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Which Should You Pay Off First: Your Car Loan or Credit Card?
May 27, 2020●
6 minute read●
If you have both a car loan and credit card debt, and you’ve been paying them off at the same time, it might be difficult to determine which to prioritise. Regardless of which you’ve been trying to pay off first, you should always be making the minimum payments on all outstanding debts. However, if you’ve saved up enough money to pay off some debt, should you pay off your car loan or credit card first?
- Credit cards usually have much higher interest rates than car loans.
- Credit card types have different rates – make sure you check what yours offers, and don’t get distracted by ‘rewards’.
- Credit card providers can charge compounding interest, meaning you pay interest on interest.
- Interest rates with credit card debt will more likely fluctuate, unlike car loans.
Wondering if you can use a credit card to buy a car? You might want to read up about car loans first.
Here are a few things you should know about before deciding on which debt to pay off first; car loan or credit card.
Why should you pay off credit card debt first?
Credit cards will most likely have higher interest rates compared to car loans. Credit card providers also charge compounding interest. This is the interest that is added to the total debt (including interest), so you can end up paying interest on interest. It’s best to pay off your credit cards first to bring the outstanding amount down so you don’t pay as much interest.
The majority of credit cards will have variable interest rates. What this means is, depending on the prime rate, the interest rates can either increase or decrease. At the moment, the average credit card interest rate in Australia is a variable of approximately 17.36%. On the other hand, car loans will most likely come with fixed interest rates. This means that the interest rate figure you are offered at the start of your loan will not change over the entire loan term. The average interest rate on car loans in Australia varies between 5% and 17%.
So, if you end up being charged more interest on your credit card debt than your car loan, it would make a lot more sense to pay off that debt before your car loan as soon as possible. It’s easy to get stuck in the loop of paying more interest with every repayment, making your debt much larger. You don’t want to end up paying more in interest than you have to.
Car loan or credit card repayments: which is better for my credit score?
While you pay off your credit card debt, did you know that your credit utilisation ratio will decrease? What’s a credit utilisation ratio? Well, it’s a number that represents your level of debt and plays a major role in calculating your credit score. Credit utilisation essentially refers to however much credit you’re currently using versus how much is available to you. However, it only applies to revolving debt such as credit cards, and not instalment debt such as car loans.
Can you believe that having an unpaid car loan on your credit report can be beneficial on your credit score? That is because the three credit bureaus in Australia (Equifax, Experian, and Illion) prefer seeing that you have the ability to manage a different mix of credit – in this case: revolving and instalment debt. This portrays to credit bureaus that you are someone who can comfortably manage different types of credit. However, keep in mind that it’s only a good image when you’re paying off the different mix of credit. If you make regular payments on your car loan at the same time as paying off your credit cards, you’re doing your credit score a favour.
However, be wary of car loan terms as some may come with an early repayment fee if you try and pay off your car loan early.
Is there any value in paying off a car loan first?
Given the significant difference in interest and the fact that a credit card is typically used more and drawn from frequently, there aren’t many reasons to pay off a car loan first. Unless you’ve reached a point where your car loan balance is a lot smaller than your credit card debt. Regardless of whether you’re paying off your car loan or credit card first, it’s always good practice to make your minimum repayments on both, diligently.
Some other ways to pay off debts
If you plan on paying off your car loan and credit card debt as soon as possible, a balance transfer credit card could help in consolidating your credit card debt. You’d be able to find some good balance transfer credit cards that can offer up to 26 months of 0% interest. That can give you a generous amount of time to significantly decrease your debt, if not paying it off in full.
You might also want to consider taking out a personal loan and using the funds to pay off your current credit card debt. Much like car loans, personal loans will usually charge lower interest rates compared to credit cards. Because of the low interest, taking out a personal loan can be a great debt consolidation option.
If you want to decrease the interest that you’re paying on your car loan overall, or you want to decrease your loan repayments, then you might want to consider refinancing your car loan. You also have the option of transferring your car loan to a credit card, however, keep in mind that this option will have a couple of risks and is maybe not the best option to pay off debt.
What you should take away from this guide
With the majority of cases, it’s recommended to allocate any additional funds towards your credit card debt. Unlike car loans, credit cards are usually a lot more unpredictable, meaning they typically charge more interest. Additionally, paying down your credit card balances will most likely give you a significant credit score boost. Therefore, generally, it will most likely be your best option to prioritise paying off your credit card debt before paying off your car loan. However, there are a few scenarios where you might want to pay off your car loan first.
If you only have a small amount remaining on your car loan, then it might be a good option to pay that off first. Even if you plan on either selling or trading in your car anytime soon, then it might be your best option to pay off your car loan before your credit cards debt. However, if none of the above applies to your debt, then it could be best to focus your finances on paying off your existing credit card debt as soon as possible.
Car loans and personal loans: Jacaranda can help!
If you’re looking for either an affordable car loan or flexible personal loan, you’re in the right place. Jacaranda offers both! Our car loans range from $5,000 to $35,000, with a repayment period of 2 to 5 years. Whereas our personal loans range from $300 to $10,000. We’ve got a loan for almost anything. So, if you’re looking to consolidate your credit card debt, refinance your current car loan and book an exotic getaway, we’ve got you covered.
To get in touch send us an email to firstname.lastname@example.org. Alternatively, you can chat with one of our helpful customer service assistants over the phone on 1300 189 823.
Personal loan or credit card: Which one is better?