Car Affordability and Expense Guide

Buying a car is an exciting—and often expensive—step in a person's life. As fun as getting a new car is, though, the process of finding the right one for you can be both overwhelming and confusing.

With vehicle prices on the rise, you may find yourself asking, "How much car can I actually afford?" Don't worry, we're here to help you answer that question with this helpful guide that outlines how much you can afford to spend on a monthly payment. It also includes as tips to help bring the cost down.

Most financial experts recommend spending no more than 10 percent of your monthly take-home pay on a car. Note, that this percentage does not include all the expenses that come with car ownership, such as automotive insurance, fuel, maintenance, parking, and repairs. When calculating the total you can afford to spend on vehicle expenses each month, aim for a figure that equals (or falls below) about 20 percent of your take-home income.

For example, if you bring home $50,000 per year after taxes, your monthly take-home pay is probably around $4167. Based on the 10 percent recommendation, you could reasonably afford to pay around $416 for a car payment each month.

Of course, you don't have to spend the full 10 percent of your monthly earnings on a car. It's always smart to save any extra money you earn for the future, and there's no harm in picking a cheaper car—provided it meets your needs—with a lower monthly payment.

Before you decide on a car, it's helpful to sit down and calculate how much the other expenses might be each month. These include repairs, maintenance, fuel, and insurance costs—the sort of thing you must pay in addition to your car loan payment.

Gas prices fluctuate, but looking at averages in your area ought to help you get a feeling for just how much you'll be spending each month refueling your car. If you live in a part of the country where the cost of living is higher than average, you might want to budget on the high end. After all, there's always the chance fuel costs go even further up.

Another expense that comes with owning a car is automotive insurance. Every state has laws that require drivers to maintain certain minimum coverage amounts. The exact coverage requirements vary by state, but you can look up what your state requires to get an idea of what you'll have to spend to insure your vehicle.

Most insurance companies base the cost on several key factors:

Age of the policyholder

Driving history

Make and model

Location

Credit history

Some states restrict the factors insurance companies can use when calculating rates. Additionally, not all insurance companies place the same weight on each factor. You might qualify for a lower rate with one company based on its calculation formula.

Before you estimate how much your car insurance will cost each month, it's helpful to request a few quotes from multiple insurance companies. You can get a rough estimate of what you'll pay, which you can use when creating your car budget.

Cars generally require some amount of maintenance and/or repairs throughout their life, so it's important to budget for such costs. If you buy a brand-new car, the manufacturer or dealership might include free oil changes and other maintenance services for a certain period of time or miles. But when that deal ends, you'll be the one footing the bill for such services.

Budget for these expenses by looking at the ownership cost for the vehicle you're considering. Some cars simply cost more to maintain and repair than others.

If you buy an older vehicle, you might end up paying more in repairs as parts wear out and break down. By planning ahead, you can potentially avoid the frustration of an unexpected car repair or maintenance bill.

After you determine how much you can afford to spend on a car, your next step ought to be finding a car affordability calculator to plug those numbers into. This useful tool shows you how much you can afford to borrow with an auto loan based on your credit tier, estimated interest rate, loan term, and preferred monthly payment.

Some car affordability calculators use other data to determine the estimated payment on a vehicle when you input the total cost. You can use this tool to answer the question, "How much car can I afford?"

As you consider how much you can afford to spend on a car, follow these steps in the process:

The amount you take home each month in income determines how much car you can afford. Based on salary, you might come up with a higher number, so make sure you're always using your take-home pay when calculating the 10 percent amount.

It's important to avoid getting locked into a car loan that is more than you can afford. Failing to make your monthly payments can negatively affect your credit score and make it more difficult to qualify for a loan in the future.

If this isn't your first vehicle purchase, consider your previous track record with buying cars. Are you in the habit of keeping cars for multiple years, or do you prefer to move on to a new car within a year or two of purchasing it?

If you're in the former category, buying a new or gently used car might be your best option. For those in the latter category, leasing might be a better choice, because it provides the option to get into a new vehicle for less money.

No matter what you decide, make sure you can make your car payments every month while also paying for car insurance and other vehicle expenses.

Car loans come with a variety of term options. Most lenders offer loan terms that fall between 24 and 84 months. A longer loan term means a lower monthly payment, but it also means you pay more in interest. It's easy to get excited about a new car, but that novelty will wear off and you could be stuck making payments toward it for many more months.

If possible, try to avoid getting into a loan that's longer than 36 months for a used car. If you're buying a new ride, aim for a term of 60 months or less. Paying off the car sooner helps reduce the amount of interest you'll pay over the life of the loan. Additionally, extending the term too much can cause you to owe more on the car than it's worth, especially after the first year when depreciation is high.

Another factor that affects the vehicle price is the interest rate. If you have good credit, you can typically qualify for a lower rate. Some manufacturers offer lower interest rates on new vehicle purchases, but the flip side of this coin is that the total cost of purchasing a new car will likely be more than what you'd spend on a pre-owned vehicle. Take all these factors into consideration when comparing loan options and interest rates.

A down payment is the cash available to put toward a car purchase. You can't finance a down payment, so it's smart to save until you have about 10–20 percent of the total car price. A lender might require a certain percentage on a new car but could be more flexible on the down payment required on a used car.

When using a car loan calculator, you can input the amount you have to put down to get a better idea of how much you'll spend each month. A down payment lowers the monthly payment because it reduces the total amount you borrow from the lender.

If you have a vehicle to trade-in at the time of purchase, you can further decrease your loan amount. You'll typically trade in your vehicle to the dealership that you're purchasing a new or used car from. Including a trade-in as part of the transaction can also reduce how much sales tax you pay.

When you've figured out your down payment amount and what you can borrow, add those numbers together to get your target price. Don't forget to include taxes and fees in your total, which vary by state. If you want to get a rough estimate of the additional cost, you can add 10 percent of the advertised sticker price or sales price of the vehicle you're considering.

Now that you know how much car you can afford, the fun begins. You can start shopping for vehicles that fit into your monthly budget, comparing features and options. If you decide to purchase a used vehicle, you might be able to save over buying a new one.

In your search for a vehicle, you might wonder whether it's better to enter into a financing or leasing agreement. An auto lease essentially allows you to rent a new vehicle from a dealership for an agreed-on period.

You must have a good credit score to qualify, and car dealerships often have other requirements for lessees. The monthly payment on a lease is typically much lower than what you'd pay each month if you financed the same car.

However, at the end of the lease term, you don't own the car. Instead, you can either enter into a new lease agreement for a different vehicle or purchase the car you were leasing for a fixed price.

Not all lease agreements allow buyouts, so if you're interested in this option, it's important to make sure it's an available option. If you don't purchase the vehicle, you might be subject to additional fees related to excess mileage and the car's condition upon returning the vehicle at the end of the term.

If you want to pay less for a used or new car, consider a few factors:

The first is your credit report. If you have a low credit score, you'll typically have to pay a higher interest rate, making your monthly car payment higher. By taking steps to improve your credit score, you might qualify for a lower interest rate.

Another way to reduce your total car payment is to bring a vehicle to trade in at the dealership. Although you might not get as much in trade-in value as you would selling the car privately, a trade-in can reduce the total amount you borrow from the lender.

If the car you want doesn't fit into the 10–15 percent recommendation outlined above, you might consider picking up another job. Increasing your annual income or take-home pay allows you to spend a little more on a monthly payment.

Below are frequently asked questions related to how much you can afford to spend on a car:

It's best to spend around 10 percent of your take-home pay on a car payment. Some buyers confuse their gross income with their net income, which can make the amount you can afford go up. When calculating how much you can spend on a car, make sure you're always looking at your post-tax or net income.

If your gross salary is $60,000, your take-home monthly pay is probably around $3750, assuming about 25 percent of your pay goes toward taxes and other expenses. Based on a calculation of spending 10–15 percent of your monthly pay on a car loan, you should spend no more than $562.50 on your monthly car payment. On the lower end, your car payment would be $375.

Many lenders offer auto loans with competitive rates. Some buyers finance through the dealership, which might make sense when purchasing a new vehicle. Others go through their personal banks or credit unions, as having an established relationship can qualify customers for lower rates.

When comparing lenders, look at factors like the interest rate you can get, the term options, and whether the loans have any limits. Credit unions, traditional lenders, and banks have different formulas for determining who can qualify for loans.

Before you make an impulse buy and get a car that doesn't fit your budget, take some time to consider the purchase and the long-term implications. By making a better financial decision, you can protect yourself while ensuring you have the set of wheels you need to get around.

Elizabeth Rivelli is a freelance writer with more than three years of experience covering personal finance and insurance. She has extensive knowledge of various insurance lines, including car insurance and property insurance. Her byline has appeared in dozens of online finance publications, like The Balance, Investopedia, Reviews.com, Forbes, and Bankrate.