Buying a car is a big deal — it can run the gamut from stressful to downright jubilant. But no matter how you feel about the search, choosing your new ride takes some careful thought and financial planning.
Whether you’re a seasoned veteran or brand new to the process, we’ve compiled a few tips to help you choose a vehicle you’ll love without breaking the bank. Let’s get started!
Before you buy a car, start with these 2 questions
There are two main factors to consider when buying a car — what you need and how much you can afford. When it comes to financing your vehicle, you’ll probably need a loan; this is where the 20/4/10 rule comes into play.
1. What kind of car do you need?
If you’re an apartment dweller in Haight-Ashbury and only need a car to get around town, you probably won’t need a Ford F-250 Super Duty for your day-to-day ride. If you’re a rancher in West Texas, a MINI Cooper Clubman just isn’t up for the job.
The common thread here? Necessity.
- Do you love road trips and need a car with good gas mileage?
- Are you a working musician with a serious need for trunk space?
- Need something that can fit 2 adults, 3 kids, and a labrador retriever?
List your needs and your wants, but be sure to star those must-haves. They’ll help you narrow down your search and keep you from giving up anything that’s important.
2. How much can you afford to pay?
Cars come in different shapes, sizes, colors — and prices. If you’re not sure how much car you can afford, or how big your car payment should be, that’s where the 20/4/10 rule can help.
What is the 20/4/10 rule?
The 20/40/10 rule is a set of 3 financial guidelines for buying a car that can help you decide how much you can really afford. You want to be able to meet them all:
- 20% down — be able to pay 20% or more of the total purchase price up front
- 4-year loan — be able to pay off the balance in 48 months or fewer
- 10% of your income — your total monthly auto costs (including insurance, gas, maintenance, and car payments) should be 10% or less of your monthly income
Example of the 20/4/10 rule
Here’s how the three guidelines work in practice.
1. Start with the 20% rule. This may be a combination of cash and trade-in value on your current ride.
- If you want to sell or trade in your current vehicle to help pay for the new one:
- Estimate your current vehicle’s trade-in or sale value
- Subtract any loan balance you still owe on that vehicle
- Add any cash you have saved up for a down payment
- Multiply the total by 5
Your total car price should be no more than that number — preferably less.
2. Next, apply the 4-year rule. This one’s easy. As you’re calculating possible car loans, use a loan term of 4 years (48 months). A shorter term is fine — just don’t go longer.
3. Finally, apply the 10% rule. Take your monthly income and divide it by 10. Your total car costs each month should be no higher than that. That includes your car payment, insurance, maintenance, and gas. (Your insurance company should be able to give you an estimate before you buy the car.)
For your monthly income, use your net income — your monthly pay after taxes and other deductions are taken out. This gives you the clearest picture of what you have available to spend.
Why the 20/4/10 rule works
Each of the three guidelines is designed to help you budget appropriately, taking all of your car costs into account, so you can afford:
- Your car payments
- Car insurance
- Maintenance costs
- Gas money
Remember, this “rule” is actually a rule of thumb — it relies heavily on your own, unique financial situation. Still, when determining the amount of money for your down payment, the length of your loan (and interest rate), and how much you can afford to spend on monthly payments, it does serve as a great guide.
After all, you shouldn’t have to work three jobs to afford your vehicle — that would mean you purchased something outside your means. That dream Pontiac GTO or S-Series isn’t going anywhere; the 20/4/10 rule can provide a roadmap of what you can afford while you’re stashing away for the car of your dreams.
How important is buying power (and what is it, anyway)?
The 20/4/10 rule is extremely helpful in determining your buying power, which is a crucial component of the car-buying process.
What is buying power? In a nutshell, buying power is your ability to, well, buy things — not just what you can pay in cash, but what you can afford if you include a reasonable amount of credit for your financial situation. That’s why your credit score is an important aspect of your buying power — it helps determine the loan amount you’re eligible for as well as your interest rate.
The good news? Car loans are “secured” by collateral (the car itself), which helps lower your interest rates.
Because a bank can repossess your car if you stop making payments, lenders consider secured debt to be relatively low risk. That means car loans come with relatively low interest rates. Still, you want to get the best rate possible.
With a higher credit score, you’ll pay substantially lessin interest over time, and your monthly payments will be much lower — meaning your car will be cheaper.
Four ways to increase your buying power
Want to buy a better car? Level up your buying power. Here’s how.
1. Bring up your credit score
If you haven’t already, start by working to increase your credit score — a lower score makes lenders see you as a risky investment, meaning you’ll be approved for lower amounts at higher interest rates.
To raise your score, start by paying down any outstanding debts you may have, automating your monthly debt payments, and creating a budget to stay within your means.
Need help getting started? Read our guide to living a debt-free life.
Other ways to improve your credit score include:
- Experian Boost — this service offered by Experian boosts your credit score if you’ve been paying your bills and subscriptions on time. Note: don’t use it if you’ve missed any utility payments or have new accounts under three months old. In those cases, it can do more harm than good.
- Get inaccurate payments removed — you can reach out to your lenders if you have any inaccurate information, like missed payments or incorrect amounts on your record.
- Leave paid-off accounts open — if you’ve paid off a credit card, leave the account open and don’t run up the balance. Credit bureaus base part of your score on the age of your open credit lines: the longer, the better.
- Limit new accounts — it might be tempting to open a store credit card to save on purchases, but each hard inquiry will take its toll on your score. Try not to open any new accounts, especially since you’ll need to create a new line of credit for your vehicle loan.
Remember, the better your credit score, the more you can get approved for, and the lower your monthly payments are likely to be.
2. Think about buying used
Another way to increase your buying power is to look at used vehicles. As humans, we’re hard-wired to be attracted to bright and shiny — especially around the car dealership. But there are some incredible deals to be had on used cars, and more often than not, the technological differences between a model from 2017 and one from 2022 are slim-to-none.
New vehicles depreciate in value immediately after they’re driven off the lot. Say you shell out a ton of cash for a brand new BMW x3 and decide you don’t like it 3 months later — now you’re selling a used car, no matter how new it might feel. That’s going to cost you. In this scenario, it’s much more advantageous to be a buyer than a seller.
Remember, though, that many used cars are no longer under warranty and could have hidden mechanical problems, so consider asking for a detailed CARFAX report before you buy. Also, keep an eye out for the going rates using Kelley Blue Book or Edmunds, and consider bypassing the headache that comes from haggling with a salesperson by using haggle-free options like CarMax or Carvana.
Pro tips for buying a used car:
- Keep your ideal purchase price in mind
- Don’t pay more than you know the car to be worth
- Do your due diligence on the vehicle’s history
- Do not let anyone run your credit until you’re absolutely ready to buy
3. Put more down up front
The 20/4/10 rule recommends putting at least 20% down on a vehicle. You can always consider a higher down payment — especially if your credit isn’t stellar. The more you pay up front, the less you’ll need to cover with a loan and the less you’re going to pay monthly.
If you’re not currently budgeting, consider creating a monthly budget with a dedicated savings account specifically for your down payment. The more you can contribute, the more money you can dedicate to the purchase of your vehicle. That can greatly affect your buying power.
4. Lower your insurance premiums
If you own a vehicle, you can’t put it on the road without insurance. Of course, what you pay to insure your vehicle can vary drastically, but a poor driving record tends to result in a higher price for coverage. A great way to level up your buying power and spend less on car insurance is to lower your monthly premiums:
- Bundle policies. Do you own a home? Have a pet? Already enrolled in a renters insurance policy? A great way to save when it’s time to insure your car is to bundle your policies together — it can save you anywhere from 5-25% a year!
- Shop around. If you’ve been insured by a single company for several years, don’t be afraid to shop around and see what’s out there — you might be surprised. Most companies will give you a free quote with no obligation, and many offer discounts, especially if you’re a good driver with no accidents or traffic violations in the past 3-5 years.
- Pay annually. While we often think of insurance premiums as monthly installments, companies do offer significant discounts if you pay your yearly coverage amount all at once. Get in touch with your insurer and see what options are available.
- Improve your driving record. If you have a bit of a lead foot and have racked up a few tickets, defensive driving courses may be able to help you knock a few points off your driving record — check in with your local DMV to explore your options.
When the 20/4/10 rule breaks
As stated above, this rule isn’t a decree — there are definitely scenarios in which the 20/4/10 rule simply doesn’t work. If you find yourself in that situation, don’t be discouraged. There are other ways to make your budget work as a whole.
One example is to hold out a bit longer and keep saving so you’ll have a larger down payment. That should reduce your monthly payments and make your monthly budget easier to hit.
Another option is to adjust your budget to make more room for your car. Is eating less take-out worth it for that sweet, new ride? The choice is up to you. Remember, budgeting isn’t always about giving up what you love — sometimes, it’s just about choosing your priorities so your money can bring you more joy.
Looking back in the rearview mirror
Buying a car is a big deal — it’s a huge purchase. So it’s important to take your time, do your research, and above all, purchase a vehicle you can actually afford.
By using the 20/4/10 rule, you can take the guesswork out of the equation.
If you’re thinking of buying soon, start saving immediately, work on maximizing your credit score, and start shopping early to explore your options. The more money you have to put down, the further your buying power goes.
Buying a new car should feel good — the 20/4/10 rule can help you drive off the lot in something you, and your wallet, will love.
