Decisions to make when buying a car
Your priorities should help you plan your purchase
When you need a new car, the choices you make at the dealership help determine your monthly payments and how much you pay for the car overall. Think through the following three questions before you finalize your ride.
Decision No. 1: Big down payment or small one?
Consider whether to make a down payment and, if so, how large it should be. The amount helps determine the size of your monthly payments. If you don’t have much saved or are prioritizing other goals like saving for retirement, you may need to put down a low sum or forgo the down payment entirely in exchange for higher monthly payments and paying more total interest.
Let’s say you’ve decided on a $30,000 car, and you’re approved for a five-year loan at a 3 percent annual percentage rate (APR). The chart below compares two scenarios with different down payments.
Consider how the numbers for your purchase would work within your budget and in the context of your overall financial goals.
Decision No. 2: Longer or shorter loan term?
The average term for a car loan is 68 months, according to 2016 data from Experian, but you could get a shorter or longer one. Bank of America offers loans up to 72 months. Longer loan terms mean lower monthly payments; however, you end up paying more interest over the life of the loan. Shorter loan terms mean a harder hit to your monthly budget, but you pay less in interest during the loan term. See how this decision plays out for the example below, assuming a down payment of $5,000 and a loan amount of $25,000 with a 3 percent APR.
Keep in mind other factors that might help you make your decision. For instance, a longer loan term would mean the car is worth less once it’s paid off, due to depreciation. However, if a low monthly payment freed up cash you put toward your credit card or other high-interest debt, you could come out ahead with the longer loan term.
Decision No. 3: Lease or buy?
If you intend to keep your car for a long time, it’s usually better to buy the car up front rather than lease it for a while and then buy it at the end of the lease period. But the decision gets trickier if you expect to keep the car for only a few years. Leasing is designed for that scenario. But when you crunch the numbers, is it a better choice than reselling your car as soon as your loan is paid off?
You can delve deeper into a comparison of the costs of buying vs. leasing with this video. Our example below assumes you pay $2,000 down on a $30,000 vehicle at 3% APR on a loan (or .00125 money factor on a lease), and the vehicle’s residual value after three years is $16,250.
Keep sight of the big picture
Virtually any form of financing pushes the total cost of your vehicle above its selling price, so it’s important to calculate that amount—and figure out how to pay it—before deciding. Always take a hard look at your expected monthly payment to gauge whether you can realistically work it into your budget.
Taking the time to match your situation and needs with the right payment option is the best way to keep your finances on track so you can relax and enjoy your new set of wheels.
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