Shopping for a car? 3 questions that need answers
When you need a new car, the decisions you make on three important issues will help determine your monthly payments and how much you pay for the car overall. Think through these questions with your priorities and budget in mind before finalizing your ride.
Question 1: Big down payment or small one?
If you’re planning to finance your car, consider how large your down payment can (and should) be. The amount you put down will help 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 it entirely), in exchange for higher monthly payments and paying more total interest.
Use this example to see how the size of your down payment could change your monthly car payment and the total you pay, assuming a car price of $30,000 and a loan term of 5 years with an annual percentage rate (APR) of 4%:
|Smaller down payment||Larger down payment|
|Total you pay (including interest)||$32,625||$32,100|
Consider how your own down payment would work within the context of your financial situation—and make sure to include the other costs of owning a car.
Question 2: Longer or shorter loan term?
Typical car loan options range from 36 months 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 total interest.
See how much your monthly payment and total car price could change as the length of your car loan increases in this example, assuming a down payment of $5,000 and a loan amount of $25,000 with a 4 percent APR:
|Shorter term||Longer term|
|Loan term||48 months||72 months|
|Total you pay (including interest)||$32,095||$33,161|
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 would free up cash you could put toward your credit card or other high-interest debt, you might come out ahead with the longer-term option.
Question 3: Lease or buy?
If you intend to keep your car for a long time, buying it outright may make more sense. You’ll usually have a higher monthly payment but will pay less overall than if you lease it for a while and then buy it at the end of the lease period. Plus, when you’ve paid off the loan, the car is yours.
But if you expect to keep the car for only a few years the decision becomes more complicated. Leasing can make more sense if you’re concerned with keeping your monthly payment low. You might also find a lease a good option if you can’t or don’t want to put down a large down payment, because the size of your down payment doesn’t have much effect on the terms of a car lease.
Take a look at an example to understand the short- and long-term financial effects of buying versus leasing, with a $2,000 down payment on a $30,000 vehicle at 4% APR on a loan (or .00166 money factor on a lease).
|Your choice||36-month loan||36-month lease|
|Total you pay||$31,772||$14,384|
Do your homework, then decide
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 signing any paperwork. 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.