Buying a car is one of the biggest purchases you can make. It’s also very useful, especially if you live in a place where you can’t rely on public transportation. You’ll use it to get to work, run errands, and enjoy social activities. These are all great uses, but you also don’t want the cost of the car to unduly dent your finances. According to Kelly Blue Book, a new car would cost you an average of $47,000 in late 2021, while a used one would cost you an average of $27,000. There are even cheaper options, but it’s most vital that you carefully consider what you need and can afford before making a purchase. Here’s a guide to help you know all about your car financing matters.
Consider Your Budget
How much can you afford? To get to this figure, you must consider factors such as credit score and monthly income. Remember that even beyond the sticker price or monthly payments, you also have ongoing costs such as gas, insurance, and car maintenance. These all need to be factored into your budget. When it comes time to make the purchase, often the choice is between taking a car loan, leasing, or paying outright in cash.
If you can, paying in cash is often the best option. If you need a loan, financial experts advise that you should spend no more than 10% of your take-home pay on a car loan. As for total car expenses (such as loan payments, gas, maintenance, and insurance), they advise spending no more than 20% of your take-home pay. This is a good rule of thumb, but everyone’s situation differs. If you wish to spend more, you can consider reducing other expenditures.
Loan and Lease
Many Americans rely on car loans to fund their vehicle purchases. According to Experian, more than 85% of new cars were bought using car loans in 2020. Used car loans stood at 36%. If you go with the car loan option, you need to know your credit score. You can do this by using a site like CreditKarma. The better your credit is, the better the financing deals you can get. Experian’s 2021 data showed that the average interest rate on a two-year consumer loan from a commercial bank was 4.58%. However, borrowers with bad or subprime credit could stand to pay as much as 13%. If you have poor credit, waiting until you raise your credit score may be your best option.
The other option is leasing. This is like renting a car which means you’ll return the vehicle at the end of the lease. Dealerships typically offer leases, but leases can also come from third-party lenders such as banks or online finance companies. Getting a lease car may require a down payment, security deposit, and other lease-related charges. Your chosen lessee will be able to explain the specifics of the leasing contract. If you decide you want a lease car, think about how much driving you’ll be doing. This is because if you drive more than the stated miles in your lease contract, you’ll likely have to pay an extra per-mile fee on those additional miles. Leasing is a good option for those who don’t drive much.
Car Loan Terms
It pays to be knowledgeable about your car loan before heading to the dealership. Here are some terms you ought to get familiar with.
- Down Payment: This is the initial payment you’ll make before financing the rest. Due to the high cost of vehicles, buyers will often pay a portion of the total cost before taking out a car loan to pay for the remaining amount. Therefore, the higher the down payment, the less you’ll need to borrow to finish the transaction.
- Interest Rate: This is the price you pay to get a car loan expressed as a percentage. Your repayments will be the amount you borrowed (i.e., the principal) plus the interest in monthly payments over the loan’s lifetime.
- Annual Percentage Rate (APR): This is the interest plus any other associated fees, e.g., loan origination, registration fees, processing fees, dealership fees, etc. It is perhaps the most important number you need to be sure of.
- Term: This is the time you have to repay the loan, typically expressed as a particular number of months. The most common terms used to be 36 to 48 months. However, as cars have become more expensive, loan terms of 60 to 72 months have become widely available.
- Total Cost: The full amount you’ll pay to buy the car is the total cost. It includes all costs such as the down payment, interest, number of payments, principal, and fees.
- Prepayment penalties: Some lenders will charge you for repaying your loan early. By paying off the loan early, the lender loses out on the interest you would have otherwise paid. Therefore, a prepayment penalty helps them recoup some of that money. Read your contract carefully or ask your lender about it.
- Truth-in-Lending Disclosure: This document provides you with important information about your car loan. It includes information such as the APR, principal, and the total cost of the loan. The federal Truth-in-Lending Act (TILA) requires that lenders provide borrowers with the disclosure before they sign any loan contract. Read this document carefully before signing.
Tips About Your Car Loan
When purchasing your car, keep the loan term as short as possible. The longer you take to repay a car loan, the more interest you’ll pay. It may appear more comfortable to stretch out the loan term by making smaller payments, but that means you’ll pay more throughout the loan’s term. Also, set up automatic payments for the car loan to avoid missed payments.
Other than reducing the loan term, aim to pay as much down payment as possible to reduce the principal. You should put down at least 20% of the total cost of the car and avoid offers of a zero down payment. A zero down payment means your principal increases, and that means more interest. The other thing you need to be wary of is miscellaneous upgrades. Do you really need a window tinting and infotainment system upgrade? These features can significantly increase your purchase price, so watch out. Lastly, compare quotes from different lenders to get the best deal. Once you’ve found the right deal, apply for pre-approval.
Car Ownership
You’ve finally acquired your dream car. Besides the loan payments, you still have other costs to contend with about your car. According to the U.S. Bureau of Labor Statistics 2019 data, the cost to own and operate the average vehicle for a year was $10,742. According to the AAA, the average cost of car ownership in 2022 is $10,728 per year or $894 per month. This includes financing costs, depreciation, gas, insurance, maintenance, registration, licensing, and taxes. Here are the costs they estimate you’ll pay annually. It is based on a five-year average of over 75,000 miles:
- Depreciation: A loss in value of $3,656 per year
- Financing: $658 per year
- Gas: $17.99 per mile
- Insurance: $1,588 per year
- Registration, License, and Taxes: $675 per year
- Maintenance, Repair, and Tires: $9.68/mile
The amount you pay will vary depending on the car. A small sedan would be the cheapest to run, while a half-ton pickup would be on the high end. If your vehicle is under warranty, you won’t have to pay repair costs – warranties tend to be for three years or under 36,000 miles. According to the AAA, you can expect to pay an average of $121 monthly for maintenance, repairs, and tires. Here are some other cost considerations about your car.
Diesel vs Gas
According to motorbiscuit, diesel engines tend to last longer than their gasoline counterparts. A well-maintained diesel engine can last more than a million miles (driving for about 20 to 30 years) before failing or needing significant repairs. A gasoline model doesn’t even come close to matching that, statistically failing at 200,000 miles even when well maintained. However, while you won’t have to contend with diesel repair costs often, diesel cars are more expensive and have higher maintenance costs.
Body Repair
How about your car gets into a crash? According to LendingTree, auto body repair costs can range from $50 to $2,500 or more, depending on the damage. For example, bumper repair or replacement costs $300 to $1500, while a paint job can cost $500 to $2,500, depending on the paint quality. The costs will go even higher if your car needs a welding service due to extensive damage.
Make of the Car
You should be concerned about your car brand as it does reflect on maintenance costs. Generally speaking, luxury car brands often cost more to maintain. According to Your Mechanic, Toyota repairs are the least expensive, while BMW and Mercedes Benz are the costliest. Some models with the lowest repair costs include the Toyota Prius and Camry. Meanwhile, vehicles like the BMW 328i and the Mercedes Benz E350 top the list of the most expensive car models to maintain. This also extends to collision repairs.
Car Tire Costs
According to NerdWallet, you should replace your tires every six years or when you begin to notice a loss of traction and worn-down tread. Learn about your car tires before purchasing new ones. According to Consumer Reports, you can expect to pay an average of $167 per tire. However, where a sedan costs a median of $137 per tire, a pickup truck costs a median of $187 per tire.
Car vs Truck
America loves trucks. However, while looking at different truck body selection options may be fun, you may want to consider forgoing a truck if you don’t really need it. According to The Zebra, the average sedan costs $9,000 less to purchase. Moreover, an average sedan costs $102 less to insure than a truck if both are on a six-month policy. Therefore, make reasonable assessments about your car needs before purchasing.
Basic Car Maintenance Costs
Regular car maintenance can help you avoid serious failures such as fuel injection problems or a seized engine. Good care goes a long way in keeping your car running properly for a long time. With your vehicle comes an owner’s manual with the details necessary to help you service your car. If your vehicle is still under warranty, you may prefer to service it at a dealership, e.g., a Ford dealer, if your make is a Ford. Note that servicing it elsewhere will not void your warranty.
One standard service procedure is an oil and filter change which is typically done every 5000 to 7000 miles. According to NerdWallet, you can expect to pay about $20 to $100 for this. Consider tire rotation as well. It should be done every 3000 to 7000 miles as it helps your tires wear out more evenly, contributing to a smoother and more comfortable ride. It also helps the tires last longer. If you know enough about your car, you can do this at home or pay about $20 to $50 for a mechanic to take care of it.
Lastly, various parts of your car will wear out over time. Other than the aforementioned tires, your wiper blades, engine air filter, and brake pads will need replacing at some point. Brake pads will typically need to be replaced at the 30,000 to 50,000-mile mark. It will cost you an average of $100 to $350. Look for signs that your pads are worn, e.g., a squealing noise, clicking, longer brake distances, or your car pulling to one side when you brake.
Researching vehicle costs can help you reduce the expenses of buying and owning a car. For example, you can minimize depreciation losses by purchasing a vehicle that historically holds value better. Also, choosing a more fuel-efficient car will save you money on gas. You can also get better insurance rates by shopping around.
