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That shiny “showroom new” car may be within your reach after all. Low interest financing, dealer incentives and seasonal sales are just a few factors making new cars more accessible these days.
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Affordability is crucial to owning
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The average American spends 11% of their monthly gross income on car payments. It’s not uncommon for Californians and East-coasters to pay up to 15% of their monthly gross toward their vehicles. As a rule of thumb, if you have other debt, it may make sense to spend even less. It’s for this reason increasing numbers of Americans are switching to purchasing used cars.
For an example, when you buy a house, mortgage lenders don’t like to see more than 36% of your monthly gross income devoted to debt payments; of that, they don’t want more than 28% going toward housing. This leaves you with about 8% for your car loan. If you make $5000 monthly, (that’s $60,000 per year) your car payment shouldn’t exceed $400. If you have a $100 credit card loan payment every month, then your car payment shouldn’t exceed $300.
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How long do you plan to have the car?
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On average, Americans tend to change cars every three years.
So the longer your loan term, the greater the chance you may be “upside-down,” which means you’ll owe more money on the new or used car purchase because it’ll be worth less by the time you’re ready to sell or trade in.
Most cars decline in value the first three years then depreciate less.
If you decide to purchase a new or used car – it’s advisable to find out what you can afford on a 36 month loan. In the race between declining car value and the amount you owe, you’re likely to lose value in the first three years of a long loan term. It may be better to pay it off than to continue making payments.
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If financing a new car
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If you’re buying a popular model that doesn’t come with incentives (such as a hybrid) shop around for the lowest interest rate before negotiating with the dealer. The last thing you want is to agree to a loan amount because the monthly payments seem affordable, but the interest rate may be higher than what you could get elsewhere.
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Compare rates
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According to data from the Federal Reserve, the average loan term for a car purchase is 60 months (5 years), up from 52 months in 1998. This means if you do not actively look for a low rate, you’ll end up paying more to the bank than is necessary.
Most states allow dealers to charge a higher rate for used cars than for new. For example, a new car might be financed at 5.7% (with dealer incentives), and a similar, two year old model will be financed at 7%. Regardless which car you buy, getting the lowest rate from a good source will save you money over the time of the loan.
If you are considering purchasing a new car that’s offering say 0% loan or a “cash-back,” you may benefit by taking the “cash-back” incentive, and then financing the rest with a loan from an accredited bank or credit union.
Additionally, we recommend finding out your credit score and taking the printout to lending institutions, rather than having each bank or credit union do an independent credit check, which would affect your credit rating.
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Do not let price sway you
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Price isn’t everything when purchasing a car. You must consider the cost of ownership for five years, and figure out what the car will really cost. In addition to your monthly loan payments, you’ll be paying for insurance, fuel, maintenance and absorbing the cost of depreciation.
This is the main reason why less expensive used cars make sound investments for the long run, than a newer car with a higher price.
For example, consider the Honda Civic LX sedan at $16,155, and the Hyundai Elantra GLS, priced at $14,101. With a 15% down payment and taking a 60-month loan at 5.76%, the Honda will cost $3,116 less to own after a five-year period than the Hyundai because it doesn’t depreciate as quickly, and its insurance, fuel and maintenance costs are less, (although the Hyundai Elantra is similar to Honda Civic in terms of both design and performance.)
Figuring out your ideal monthly car payment is the most appropriate way of simplifying the car buying process. Sure there may be deals to be had, but the best car is the one you can comfortably afford.
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