Borrowing Money: Understanding How The Numbers Work


by David Berky - Date: 2007-02-01 - Word Count: 858 Share This!

I would like to start out by telling you a true story. The
names have been changed to protect the innocent, the
ignorant and the dishonest.

John was interested in purchasing a new truck. John had
done his homework and knew exactly what make, model
and features he wanted on his new truck. He had visited
several dealerships looking for the exact truck he wanted.
He wanted to get it now and didn't want to wait to have
one custom built.

Finally he found a dealership that had the exact truck he
was looking for and he even liked the color.

Now it was time to negotiate the price and financing. John
realized that he was not very good at numbers so he asked
his friend Cindy to come along and help him make sure he
was getting a good deal.

The salesperson looked up the pricing information on the
truck and added in all the extra fees for tax, title, license,
and what-ever-else-we-can-sneak-by-you. The total cost
came out to about $22,000.

Cindy remained quiet while the salesperson explained the
financing options that were available to John, checked
John's credit and determined an interest rate for the loan.
The salesperson then went to check with the manger to
make sure the financing application was completed properly
and to calculate the monthly payment.

The salesperson returned and announced that the
payments on the 5 year loan would be about $420 a
month. Cindy checked the numbers and agreed with the
calculations. But John was a little shocked and
disappointed.

Seeing his expression, the salesperson mentioned that the
monthly payment may be more than what John would feel
comfortable with and that maybe they could lower the
payment by going to a 6 year loan instead.

John then looked to Cindy, who said that this would lower
the monthly payment but John would end up paying more
interest because of the longer time for the loan to be paid
off. John wasn't too concerned about paying a little extra as
long as he could afford the monthly payments (and drive his
truck home today).

The salesperson asked John how much he could afford to
pay each month on his truck loan. John indicated he could
pay up to $375 per month. The salesperson then went to
"get approval" from the manager to extend the length of
the loan and to recalculate the monthly payment.

Upon returning the salesperson announced that he was
able to "wrangle a good deal out of the manager" and was
able to get the monthly payments down to, you guessed it,
$375. John was excited. All he had to do was sign the
papers and he could drive home with his new truck at a
monthly payment he could afford.

But Cindy was curious. She asked to look at the numbers
but this time the salesperson was a bit hesitant. The
salesperson tried to change the subject one or two times,
but Cindy insisted on seeing the numbers.

Cindy review the numbers and did some of her own
calculations and found that the monthly payment on the
truck loan should have been about $350 a month. So how
did the salesperson come up with $375 per month?

After looking at the terms of the contract a bit closer, Cindy
noticed that the price of the truck was now $24,500, an
increase of $2,500. Cindy asked the salesperson why the
price of the truck had just gone up? After trying to dodge
the question and then blaming it on a mistake by the
"finance department," Cindy and John walked out of the
dishonest dealership.

As excited as he was to have his new truck, John was
angered that the salesperson/dealership had tried to rip
him off by taking advantage of his lack of understanding
how the numbers in a loan relate.

John then had Cindy explain to him in basic terms how the
number related and what to look for in the financing terms.

Cindy explained that there are four elements to a loan; the
principal or amount you are borrowing, the interest rate,
the time period and the monthly (or weekly, bi-weekly, etc.)
payment.

And the numbers relate like this. If the amount goes up the
payment goes up. If the interest rate goes up the payment
goes up. If the time goes up the payment goes down.

So in the case of John's truck loan they extended the time
so that the payment would go down. But the payment went
down further than what John was willing to pay. So they
decided to increase the amount so that the payment would
match what John said he could pay.

But they "forgot" to explain to John that the price went up
to make the payment hit his target. And they couldn't come
up with a valid reason for the price increase when Cindy
questioned them on it.

Without Cindy and her knowledge of how the loan numbers
relate, John probably would have got his truck, but he
would have needlessly over-paid $2,500.

John found a truck he liked even better at a different
dealership, bought Cindy along to help make sure he was
getting a good deal, and then took her out to dinner.

Related Tags: loan, personal finance, financing, simple joe, financing terms

Your Article Search Directory : Find in Articles

© The article above is copyrighted by it's author. You're allowed to distribute this work according to the Creative Commons Attribution-NoDerivs license.
 

Recent articles in this category:



Most viewed articles in this category: