How Much Car Can I Afford?

Automobiles are often seen as a status symbol and if you believe all of the advertisements that seen to be everywhere, you can drive the top of the vehicle for a minimum monthly payment. With incentives like low payments and zero interest, it is often easy to forget that you need to analyze how much you can truly afford before driving off of the sales lot.

In order to decide how much you can afford on a car payment, you first should look at how much money you have to put down. Try to put at least 20% down on a vehicle purchase. While this might seem like a lot of money to put down, it will help you in three ways: it lower your interest rates, lower the amount of money borrowed that will affect your credit score, and also keep your payments lower. Saving up the 20% may seem daunting, but it is the first step in being able to set a the goal of purchasing a realistic vehicle.

Next, you should look at your household gross (before taxes) monthly income. Your car payments should be no more than 10% of your monthly income. Keeping your car payments as close as possible to 10% will help your monthly budget stay on track. You also should not finance the car for more than four years. Car dealers will often offer to extend car loans for up to seven years to make a vehicle seem more affordable- however, vehicles depreciate and with a loan longer than four years, you will soon owe a significant amount more than your car is worth.

With these simple steps in mind, it is also important to remember that car sales is a competitive field, as are loans. When shopping for a car, remember to compare prices and offers from several dealers. Also, shop around different banks for loans: don’t just take the deal offered by the car dealer. Likewise, shop around for car insurance quotes. By paring some keen negotiation skills with a budget conscious price range, you will soon be driving a car that is well within your means.

Kent Smetters

Kent Smetters is the Boettner Chair Professor at The Wharton School of the University of Pennsylvania, the Interim Faculty Director of the Penn Wharton Public Policy Initiative, and a Faculty Research Fellow at the NBER. He was the former Deputy Assistant Secretary of the U.S. Department of the Treasury, and he subsequently served as a member of the U.S. Congress’ bipartisan Blue Ribbon Advisory Panel on Dynamic Scoring. Kent holds bachelor degrees in Economics and Computer Science from The Ohio State University as well as an MA and PhD in Economics from Harvard University. He previously cofounded a national registered investment advisory firm that built a new technology platform, grew the firm to over 50 advisors and then sold the firm to a large, publicly-traded company. Growing up in a financially poor family, Kent donates his time to “Your Money” to help families work, save and set goals in order to achieve the most in life. Kent is often cited in major news outlets.