How Large of an Auto Loan Can I Afford?

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Knowing how much car you can afford can be tricky, especially for first-time buyers. But it’s important to run the numbers so you don’t end up with an unmanageable auto loan payment.

Not everyone should request the same amount of money because everyone has different incomes, expenses, down payment amounts and credit scores. The terms, interest rate and loan amount also play a role in auto loan affordability.

Since there’s so much to consider when deciding how much auto loan you can afford, it’s good to look over your finances and loan options before making your first move.

How to Determine How Much Car You Can Afford

The average new car price is $49,740, as per latest Kelley Blue Book data. Used cars tend to be cheaper, but all vehicles come with additional expenses like annual maintenance and insurance.

When setting a car-buying budget, consider the following:

• Vehicle purchase price: A more expensive vehicle may require a larger loan or down payment.
• Upfront fees: You may need to pay extra fees when buying a car, like title fees, taxes, insurance, registration and dealership fees.
• Additional features and services: Extended warranties, family maintenance plans and the like can add to the overall cost of car ownership.
• Repairs and maintenance: Be prepared for routine maintenance and unexpected repairs — like new parts or tires.

The 20/4/10 Rule for Car Affordability

If you’re having trouble determine how much auto loan you can afford, start with the 20/4/10 rule:

• Make a down payment of at least 20%
• Choose a loan term of 4 years or less
• Keep total car expenses under 10% of your monthly income

Say you found a car for $40,000 and can get an auto loan with a 6% interest rate over 48 months. After putting 20% down, your actual loan amount would be $32,000.

Your estimated monthly payment would be $752. You can afford this payment if you make at least $7,520 a month (10x the amount of the car payment).

But you’ll need to calculate additional expenses as well, like gasoline, repairs, maintenance and other vehicle costs. All costs combined should be no more than 10% of your monthly income.

Use an auto loan calculator to run the numbers and see what you can afford.

Factors That Impact Car Affordability

Many factors impact how much car you can afford, including:

• Income: Higher incomes generally allow for a larger car budget. The more you earn, the easier it is to keep up with those payments (and any unexpected expenses).
• Debt-to-income ratio (DTI): Lenders consider your existing debt when deciding whether to give you a loan. This makes your DTI — percentage of income going toward monthly debts — important. A lower DTI usually means higher approval odds and potentially better terms.
• Credit score: This affects your loan interest rate and total cost. With good credit, you could get a lower rate and save money in the long run.
• Loan term: Longer terms mean lower monthly payments but increase total interest. Shorter terms mean higher monthly payments but lower total interest.
• Down payment: A larger down payment means a smaller auto loan and potentially lower monthly payments. The more you can put down, the more expensive car you can afford — but you might want to keep costs low with a larger down payment.

Know that not all costs associated with car ownership are so easy to calculate. You’ll need to account for seemingly little things like gas.

For example, the national average gas price is $3.121, according to AAA. If your tank holds between 12 and 16 gallons, a fill-up would cost between $37 and $50. Be sure to budget these expenses in with your regular budget.

How to Calculate How Much Auto Loan You Can Afford

It’s always a good idea to compare several auto loans to see which ones you can afford. Compare the different loan terms, interest rates, vehicle purchase price and lender fees to make sure you’re getting a good deal.

You can also estimate your monthly car payment before ever walking into a dealership.

Monthly Car Payment Calculation

To calculate how expensive of a car you can afford, start with your monthly income. No more than 10% of your income should go toward all car-related expenses, including the actual loan payment, insurance, gas and maintenace. Ideally, you’ll have an emergency fund in case something unexpected comes up.

Say you earn $4,000 a month after taxes. Your total car payment should be no more than $400. If you earn $8,000, your car payment can be $800.

To get this number, use an auto loan calculator. These online calculators can also include other things, like taxes, to get you a more accurate portrayal of your loan cost.

Example Scenarios

Here are a few example scenarios of what car payment you can afford based on your annual income:

Should You Buy or Lease?

When it comes to vehicles, you have two options:

• Buy it outright or with an auto loan
• Lease it

Here are a few considerations with both:

• Monthly payment amount: Leasing may give you lower monthly payments. This is because you’re only paying for the vehicle’s deprecation plus taxes, fees and rental charges. Buying a car comes with additional fees like financing charges, interest and taxes.
• Upfront costs: When you lease a car, you may have to pay a refundable security deposit along with the first month’s payment and a capitalized cost reduction. You don’t have this when purchasing a car, but you may need a down payment. Both options typically require other upfront fees, like taxes, registration and other fees.
• Ownership: A leased vehicle is a rented vehicle. You have to return it eventually, meaning you never get to own it.
• Mileage limits: Unlike a car purchase, a lease may come with a limit on how many miles you can drive in a given year. The limit is usually between 12,000 and 15,000 miles. Going beyond this range may come with an additional cost or higher monthly payment.
• Long-term costs: You may save money in the long run by buying a car, depending on the loan amount, interest rate and down payment. This is because, once you’ve paid it off, you won’t have monthly payments. With leasing, there’s no ownership — and thus no payoff date.
• Flexibility: Leasing gives you more flexibility, which is good if you’re not set on a specific make or model.

Here’s a simple breakdown of leasing vs. owning a vehicle:

How to Get the Best Auto Loan Rates

Getting an auto loan you can afford often starts with getting the best auto loan rates. Here’s how to do it.

1. Improve Your Credit Score Before Applying

Your credit score is one of the largest determinants of how much you’ll end up spending on a car — aside from its actual price. If you’re not getting the best rates, you might need to improve your score. You can do this by:

• Paying down existing debts
• Keep credit card balances low
• Increasing your income
• Keeping up with payments (and avoiding late charges)
• Avoiding applying for multiple new lines of credit or loans
• Reviewing your credit reports for errors (and disputing any you find)

2. Compare Lenders for the Best Interest Rates

Not every lender is the same. Compare multiple to find out their typical rates and terms. Make a list of potential lenders and see if you can get prequalified before committing to a loan.

3. Consider Shorter Loan Terms to Save on Interest

A shorter repayment term usually means higher monthly payments, but lower overall interest charges. Use an auto loan calculator to see what your payments will be with different terms.

4. Make a Larger Down Payment to Lower Monthly Costs

The less you need to borrow, the more you’ll save on interest charges. A larger down payment could mean taking out a smaller loan, getting a better interest rate and having lower monthly payments.

Note: If you don’t have a large down payment but you do have another vehicle, consider trading it in. You can use the trade-in value to offset the costs of the new car.

Mistakes to Avoid When Buying a Car

The last thing you want is buyer’s remorse — or financial stress. Here are three major mistakes to avoid when buying a vehicle.

Overestimating Your Budget

Getting a car that’s too expensive can be problematic if something unexpected comes up — like an emergency or a flat tire. If you overestimate your budget, you may also struggle with monthly payments, gas bills and repairs.

Consider a cheaper vehicle that still meets your needs. Also, save up for a larger down payment and keep some money in an emergency fund just in case.

Ignoring Loan Terms and Interest Rates

Repayment terms and interest rates are major factors in determine how much auto loan you can afford. They both impact your monthly payment and overall costs.

Before taking out a loan, look for ways to get a better interest rate. Shoot for a shorter repayment term to avoid excessive interest charges. Just make sure you can afford the monthly payment amount.

Not Factoring in Maintenance, Insurance, and Taxes

Cars can cost a lot more than you think, thanks to insurance, taxes, registration and other fees.

For example, the average cost of vehicle repairs is $838. Car insurance ranges from $79.83 to $157.27 a month.

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