It’s easy to talk about how much you can afford … but what we think we can afford, and what we can actually afford, are two very different things. To know how much car you can buy, here’s a step by step process to figure out your costs.
Start with your monthly budget. If you’re wrapping up a car loan, ask yourself if you want a payment that’s lower or can afford a higher payment. Sit down with your bills and work out just how much room you’ve got in your budget for a monthly payment, so you’ve got an absolute ceiling.
Look at what you have available in your savings for a down payment. Generally, it’s recommended you have 15 to 20% of your total costs sitting in your bank account, but that’s not workable for everybody. If you don’t have a down payment, a good place to start if you can is to set aside the payment you’ve already worked out from your budget. If your finances can’t pass this “stress test,” it’s good to know now and have a better sense of what you can afford than to try and guess when shopping.
Determine the true value of your trade-in. Remember, you don’t have to completely pay off your car to trade it in … but if your car isn’t fully paid off, you’ll have to deduct what you have left on it out of your trade-in value. For example, if you’ve got a trade-in worth $9,000, but you still have $2000 in payments left, your overall trade-in is worth $7000. This would also be a good time to ensure you can actually trade in your car.
Next ask yourself: “How long do I want to pay for this car?” Let’s say you want to pay $200 a month for six years. That works out to $14,400 over that span of time. This gives you a rough idea of the pricing you should look at for cars you want to buy. When shopping for cars, look for the manufacturer’s suggested retail price, or MSRP, and the dealer’s invoice price. The former tells you how much the car is supposed to cost, the latter tells you, in theory at least, how much the dealership has to charge you to break even on the car. If your total falls between those two price ranges, that’s a car you can afford.
Research any taxes and fees you’ll be required to pay, and add that onto the price. This will vary state by state, but they can be expensive and you don’t want to get surprised. Add that to your price ranges to get a sense of the overall cost.
Get financing quotes from car loan lenders. Yes, this step comes before you step onto the lot. Enter in what you’re looking for and look for quotes with the lowest interest rates. The less interest you pay, the lower your monthly payment.
Finally, add it all together. Say you got financing for $15,000, plus $2000 you have in savings, and a $7000 trade-in. That gives you the overall cost of what you can afford: $24,000. Don’t mention this to the salesperson: It’s their job to try and get you to buy the most car possible, after all. But if you go in knowing what you want, and with the financing to buy it, all that’s left to do is haggle down the price.