How Much of Your Salary Should Go Toward a Car Payment?

Buying a new car is exciting, but be sure you can afford the payments.
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In many areas of the country, getting where you need to go punctually and reliably necessitates owning your own a car. Because a car is usually one of the larger purchases you'll make, you'll likely have to rely on getting a loan. The three parts of the loan to consider are the principal, the interest rate and the length of the loan. When budgeting for your car payment, it's important to keep these in mind, as well as the hidden costs of car ownership, such as insurance and repairs.

Budget Considerations

The first thing to take into account is your income and what monthly payment it will allow you to make. The experts at Freddie Mac, as well as most lenders, recommend you spend no more than 28 percent of your monthly gross income on house payments and no more than 30 to 40 percent on all the other bills you have to pay, including your car payment.

Principal and Interest

Your payment will be determined by the amount you're trying to finance and the interest rate the finance company or bank gives you. Since your FICO score is the primary determinate of your interest rate, it's essential for you to know what your credit score is. The definition of what qualifies as a good credit score can differ between lenders. Some auto lenders may consider 680 an acceptable score, while others could require a score as high as 720 to loan you money for a car at a good interest rate.

Finance Term

For people with good credit, most auto loans will run from 36 to 60 months. If you have exceptionally good credit, you may be able to negotiate a term of 72 months. Remember, however, the longer the loan period, the greater amount of interest you'll pay. If you borrow $10,000 at 5 percent over 48 months, the payment will be about $230 a month, with a total interest of $1,054. If you increase the interest to 12 percent, the monthly payment will be about $263, and the total interest around $2,640.

Practical Application

Using the formulas provided, if you have a gross income of $4,000 each month, your rent or mortgage payment should not exceed $1,120 and your other monthly expenses -- including your car payment and things such as utilities, food, taxes, insurance and credit card bills -- should not exceed $1,600. And don't forget the related costs of owning a vehicle: maintenance (like oil changes, tire care or replacement and any other upkeep needed to meet manufacturer warranty requirements), vehicle registration and car insurance.

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