BUYER’S GUIDE: Figuring Out Your Down Payment

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It’s time to buy a new car and you’ve stashed away some cash for a down payment. You know you’ll have to finance some of the cost, but how much cash should you have ready as a down payment to buy the car of your dreams?

These tips will help you understand the importance of a down payment and how it can have a huge impact on how much car you can buy.

The 20 Percent Rule

If you want a hard and fast rule, then this is all you need to know. The recommended amount for a down payment has long been 20 percent and you can’t go wrong having that much cash at the ready. The problem is, that’s a lot of cash, especially if you’re looking at a more expensive car. That’s why this rule rarely holds true with today’s car buyer.

The reality is that the average down payment is a good bit less. Most people only put down about 11 percent as a down payment on their car. What does this mean for you? It means there’s no rule you have to follow. That 20 percent is merely a suggestion by the experts. You have to do what’s right for your budget and your needs. If you don’t have 20 percent, that doesn’t mean you can’t buy a car.

It does mean you might not be able to buy as much car. A bigger down payment means a smaller monthly payment and that monthly payment is a number you have to be sure you can handle. Crunch the numbers and figure out how much you’ll pay every month with the down payment you have ready. If you can’t manage the payment, then you have two choices. You can opt for a less expensive car or you can hold off and keep adding to that down payment until you have enough to make all the numbers work.

Don’t Use All Your Cash

It may be tempting to pull a large chunk out of your savings for a down payment, but this isn’t always a good idea. Your savings needs to do more than buy you a new car. It needs to be there to handle all of life’s little surprises.

We’ve all been victims of Murphy’s Law, which practically guarantees the minute you take all your money out of your savings for one thing, something else will go wrong and you’ll wish you had cash on hand. Rather than deciding you need a car and wiping out your savings, try to add to that savings first so you’ll still have cash in case of emergencies.

It’s not just about buying a car, but keeping a car. You may need extra cash for unexpected repairs, too. Even new cars fall victim to wear and tear. There’s also no guarantee you won’t have unexpected damage like a flat tire or fender bender that will require cash on hand. Don’t wipe out your savings to buy a car. And don’t forget regular maintenance, insurance, and gas. Cars are expensive to buy and expensive to keep.

Check Your Credit

Unless you have very deep pockets and are paying cash for your whole car, you’re going to need to look at a loan to pay for the bulk of the cost. To get a loan you have to have decent credit so now is the time to check and see where your credit stands.

A low credit score makes it more difficult to get a loan, but it doesn’t make it impossible. You’ll likely pay a higher interest rate if you have poor credit so factor this in when you’re thinking about a down payment.

A larger down payment means you’re financing less and that will help lower your monthly payments. It also shows the bank that you have an interest in keeping your car. If you don’t have much of a down payment, then you have less of an incentive to make sure you keep that car in your driveway and banks won’t want to give you a loan.

Making a larger down payment means your money is tied up in the car and you’re less likely to default on your loan. This makes the bank more likely to take a risk with your bad credit and issue you a loan after all. Once you get that loan, pay it on time. This will help build your credit back up to where you want it and make your next loan that much easier and less costly to obtain.

Avoid Being Underwater

If you owe more than your car is worth and you suddenly need to sell it, then you’re in trouble. The same thing is true if you wreck your car and your insurance company doesn’t give you enough to pay off the amount of the loan you still owe. This is called being underwater and it’s often hard to avoid when a car is new and you still owe most of the purchase price. A larger down payment can help reduce this risk.

Buying a car is a big purchase and one you’ll hopefully be happy with for several years. The problem with being underwater is that even if you’re not happy there’s no way you can afford to sell your car and pay off your loan. Pay attention to the terms of your loan. There are lots of loan options out there, but some are risky propositions making them something you should try to avoid in an ideal world.

Consider Your Monthly Payment

The focus when you buy your car is the purchase price. It’s a huge part of the transaction and it’s where everyone starts when they’re shopping, but be sure you’re comfortable with your monthly payment, too. It’s just as important to have a monthly payment you can honestly afford without having to subsist on bread and water.

A larger down payment means a smaller monthly payment, which makes it much easier for you to handle lean times. You may have a great job and plenty of cash right now, but three years into your loan there’s no way of knowing your financial situation. Your monthly payment should be one you can afford even if your fortunes change. Don’t stretch and make it something you can hardly manage on a good day.

If you’re having trouble getting the car you want with a monthly payment you can afford, then a larger down payment can help solve that problem. This will take some time and requires patience and budgeting, but better to wait a few more months now than end up with a car you can’t afford to keep a few years down the road.

Buying a new car is exciting, but don’t get carried away. It’s a big financial commitment. Saving enough for a down payment to make the purchase work will have you happily driving off the lot with a car you love.

Nicole Wakelin

Nicole Wakelin