How Much Car Can You Really Afford? | The Motley Fool (2024)

Car shopping is both exciting and stressful. It's a lot of fun to test drive different cars and eventually get a new ride. But then there's negotiating with car dealers and deciding whether a car is really in your budget.

Given that car prices and interest rates have risen in recent years, finding a car that fits your budget can be a challenge. This guide will cover how to determine how much car you can really afford.

How much should you spend on a car?

Whether you're taking out an auto loan or a personal loan to pay for your car, it's a good idea to limit your car payments to between 10% and 15% of your take-home pay. If you take home $4,000 per month, you'd want your car payment to be no more than $400 to $600.

There's a caveat to this rule, though: Don't take out a long loan term just to lower your monthly payment unless absolutely necessary. Longer repayment terms on personal loans or auto loans will ultimately cost you more in interest. The longest auto loan you should get is:

• 60 months if you're buying a new car
• 48 months if you're buying a used car

The reason why you don't want to get an auto loan for longer than those terms -- besides the extra interest you'll pay -- is that you'll run a greater risk of becoming "upside down" on your loan. That means you may end up owing more on the car than the car is worth.

Don't forget, though, that your car payments are just one of the costs of car ownership. You also need to account for car insurance, registration fees, and maintenance.

A good rule of thumb in personal finance is that your overall transportation costs shouldn’t exceed 20% of your monthly take-home pay.

How much does the average car cost?

The average new car price was just above $48,000 in mid-2023, according to Kelley Blue Book. Meanwhile, the average used car price was just under $27,000, according to Consumer Reports.

Not surprisingly, high vehicle prices and financing costs have caused monthly car payments to surge. Edmunds reports that the average monthly car payment on a new vehicle was $733 in the second quarter of 2023. If you don't want your car payment to exceed 15% of your take-home pay, you'd need to earn nearly $4,900 after taxes to afford a $733 car payment.

Customizing your car budget

Although 10% to 15% of your take-home pay works well as a general guideline for buying a car, you also need to take into account your current spending habits.

Ideally, after factoring in your car payment, you should still be able to:

• Pay for all the necessities
• Put 10% to 20% of your income into a savings account
• Have disposable income remaining for non-essential expenses

Look over your budget to see how much you're spending and saving each month. This will give you the most accurate idea of how much you can spend on a car.

For example, if you've been saving 30% or more of your income, then you have the flexibility to spend more on a car. On the other hand, if you aren't able to save much money, then putting 10% to 15% of your income toward a car payment may be far too much.

If you're wondering how much the monthly payment on a personal loan might be, use the calculator below. Enter the amount you'd like to borrow, then set either the monthly payment or loan term to what you're looking for. Experimenting with different numbers can help you find a loan term that works for you.

Keeping your car costs down

The advice above should give you an idea of the upper limit of your car budget. But keep in mind that spending less on a car is usually a good idea -- as long as you don't buy an old death trap.

Cars are an area where consumers overspend all the time. After all, we see cars as status symbols, and it can be hard to resist the temptation of getting the absolute newest and best model we can afford. The problem is that car values depreciate rapidly, and a new model comes out every year. Last year's status symbol ends up becoming this year's money pit.

Here are a few ways you can reduce your car costs as much as possible:

• Buy used: New cars lose as much as 20% of their values during the first year. Even buying a car that's one or two years old can save you big time. With the way car technology has advanced, you can buy an older car that still drives well and has plenty of safety features.
• Put more money down: You'll have less to finance and can get a loan with a shorter term, which can result in a lower interest rate for a personal loan.
• Get an excellent credit score: If you're wondering, "What credit score do I need for a car loan?" there's no minimum score required to qualify. Each lender will have its own requirements. But generally, try to aim for 720 or higher. That way, you can qualify for the best personal loans. You'll also potentially save hundreds and perhaps thousands in interest compared to someone with fair or average credit.

There's a lot that goes into buying a car. It's a big purchase, and you definitely don't want to make a bad financial decision. When you take some time to evaluate your budget, you'll be able to calculate exactly how much money you can spend on a car, both per month and in total.