What's the Catch With Zero Interest Loans?

At first glance, zero interest sounds like a great deal—especially if it’s for a big purchase.

But watch out! Those 0% APR signs are exactly how businesses rope you in. They promise you can drive off in a nice car or take home that new washing machine without all the extra strings attached. But the truth is, unless you’re buying in cash, there will always be strings attached.

I’m going to break down the basics of zero percent financing—what it is and how it works—so you can avoid getting stuck with a “deal” you’ll regret.

 

What Is Zero Percent Financing? 

Zero percent financing is a loan that doesn’t charge interest, either for the entirety of the loan or for a certain period of time.

But I don’t want you to get confused: Zero interest doesn’t mean free.

Similar to buy now, pay later, zero interest loans are just a clever marketing tactic that car dealerships and other businesses use to get people in the door. But they have the power to do some serious damage by tricking you into buying something you can’t afford—particularly when it comes to cars.

How Do Zero Interest Car Loans Work? 

Normally, when you finance a car, you have to pay back the amount you borrowed—plus interest. But with no interest car loans, you only repay the loan amount and don’t get charged any interest. You’re probably thinking, That sounds great! Uh, not quite.

Even though you’re not paying interest on these loans, it doesn’t mean you’re actually saving money. Car dealerships offer 0% APR (that stands for annual percentage rate) as a way to drive sales on a slow-selling model or help make room for new inventory. But since they’re missing out on the interest (their biggest moneymaker), they’re not going to come down on the price. They may even increase the total cost of the vehicle to make sure they get a profit.

Instead of being financed through a bank or credit union, zero interest car loans are financed through the vehicle manufacturer itself (often called captive auto lenders). If the name is any clue, you don’t get a say in the loan terms (which are super strict, by the way).

If you miss even one monthly payment, you’ll get hit with a new sky-high interest rate faster than you can blink—plus other fees and penalties. So, before you jump at 0% APR car deals, you need to count the real cost.

The Real Cost of Zero Interest Loans

You might see zero percent financing and think free. But in reality, zero interest car loans cost you more than other loans in several ways:

1. Higher Price Tag

Most 0% APR car deals are only offered on new vehicles selling at full price—which means you can’t negotiate or take advantage of a sale. And like I mentioned before, dealerships can mark up the price even more and add on a lot of hidden fees because they know they won’t make as much money on interest.

2. Expensive Extras

With zero percent financing, you’re more likely to impulse buy. And since you feel like you’re saving money with the 0% APR, it’s easier for the salesperson to talk you into overspending on fancy upgrades and extra features you simply don’t need (like extended warranties or gap insurance).

3. Strict Repayment Terms

A monthly payment is already a huge weight on your wallet (and your mind). But when it comes to zero interest loans, the term (length of the loan) is usually a lot shorter—which means your monthly payment is a lot higher. And there’s no wiggle room when it comes to these deals.

4. Risk of Interest Rate Changing

Even if you think you can make the monthly payment now, all it takes is one job loss or health crisis to fall behind. If that happens, you can say goodbye to that 0% interest. And suddenly you’re saddled with a large interest rate you never would’ve agreed to!

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Plus, you’ll also have to pay late fees. And when you’re already behind on payments, owing more money on top of that is definitely not going to help. Also, depending on the loan agreement, you might also have to pay interest on the full loan amount. Yikes!

Who Qualifies for Zero Percent Financing?

In order to qualify for a zero interest loan, you’ll need a very high credit score (usually 740 or higher). The exact range will vary depending on who you’re shopping with, but they’re not handing out this type of loan to someone who doesn’t already have a proven track record with debt.

Here’s the thing though: If your credit score is higher than the number in your bank account, that’s a problem. The truth is you can live without a credit score! And if you take the time to save up for a car, instead of trying to improve your credit, you won’t even have to worry about getting approved.

Are Zero Interest Loans Worth It?

Nope. Zero interest loans are a sneaky sales gimmick that benefits the dealer more than the buyer.

Not having to pay interest might seem like a great deal up front. But you’re still being talked into a car you can’t afford. (And just because you can make the payments, it doesn’t mean you can actually afford the car.)

You might think you can outsmart the system and beat these guys at their own game. But they created the game, and they make the rules. They know that, more often than not, people don’t pay the money back in time and end up getting slammed with all that interest.

It's just not worth taking on that kind of debt for a new vehicle that’s rapidly going down in value.

The Best Way to Pay Zero Interest

If you really want to avoid paying interest, your best option is . . . to purchase with cash! That’s right—even for a car.

In fact, there’s absolutely nothing better than heading to the dealership and buying a new (or new-to-you) ride with money you already have. No monthly payment. Truly zero interest.

Listen, you can buy a car with cash. For example, if you saved $726 a month (the average new car payment) instead of giving it to a dealer, you’d have $17,424 after two years!¹ That’s definitely enough to get yourself a reliable used car. And you won’t have to worry about the car plummeting in value the moment you drive it off the lot—like you do with that brand-new car the dealer was pushing you to buy.

I know that saving up and paying cash for something (especially a car) is the opposite of what most people do. But most people are broke! And once the car is yours—like actually yours—just imagine the good things you can do with that money instead of throwing it out the window on a car payment. You can do things you really want to do, like fund your retirement, be more generous, or even go on a family vacation.

The best way to save for a car (or anything else) is with a budget. I know, I know. A budget sounds like a list of rules for how you can and can’t spend your money. But you guys, it’s not like that at all! A budget (especially a zero-based budget) gives you permission to spend.

And when it comes to saving for something as big as a car, a budget will help you keep track of every single dollar until you’re driving off the lot without the weight of a car payment. Create your free budget with EveryDollar and start saving!