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  • Writer's pictureStephen Boatman

How Much To Spend On A Used Car?

Updated: May 16

When you google this question, you get a few responses:


  • What you can pay in cash

  • No more than 35% of your income

  • 20% down + payments that aren’t higher than 10% of your monthly income

  • “Tell me what you want your monthly payment to be?” (thank you, car dealers)

However, the answer isn’t the same for everyone. One person may have a large student loan, mortgage, auto loan, or credit card debt to manage, while another has savings built up, no debt, and already spends less than they make. Or they may be married with kids, and the other is single, you get the picture. With all of these variables, how can we decide how much car we can afford?


We will solve this problem using a sliding scale. Our scale will range from 10% to 30% of our annual pre-tax income. Note that the 10% to 30% number is our household’s car value, not the amount we should pay for each car.


10% → 20% → 30%


10% example: $80,000 earned, $8,000 car purchase price


30% example: $80,000 earned $24,000 car purchase price


A person should lean towards the 10% limit if they:


  • Have consistent credit card debt that is producing an interest charge

  • See a car as a tool to get from point A to point B

  • Value travel, home, vacation home, experiences, etc. more than their car

  • Owe student loan debt equal to 100% or more than their income

  • Earn a household income below $80k

  • Save less than 10% of their after-tax income for retirement.

  • Struggle to afford primary medical care (annual check-up and dental visits)

  • Don’t have six months of living expenses in an emergency fund


You could lean towards the 30% limit if:


  • No debt (Exception: a mortgage that costs less than 30% of take-home pay)

  • Earn an income of over $80,000

  • Save above 15% of after-tax income

  • Generally experience a financially stress-free life

  • Enjoy talking about their car with friends/family

  • Live well below their means

  • Have six months of living expenses in an emergency fund


The above variables should tell you how much you can get away with spending. But there are other essential variables to consider when it comes to purchasing a car. Such as car turnover/time of ownership, should you finance or pay with cash, how to sell your old car, leasing, and how new of a car should you buy?


Used Car Buying Frequency


By frequency, we mean how frequently you buy a new car. Driving a reliable car for 10+ years lowers three large expenses, depreciation, car insurance, and (hopefully) getting out of a car payment to free up cash flow.


Car’s depreciate fastest in the first 3 years of their lives. After that, your depreciation slows and the annual cost of ownership goes down. You can save money on car insurance by continuing to drive your cheaper car. This is because when you buy a new car, you usually buy a more expensive car that will cost more to replace. So the insurance company charges you more for agreeing to take on the larger risk. Lastly, when you own a car for a longer term than your car payment, you end up paying off your loan and providing yourself with more cash flow. Having no car payment allows you to accelerate retirement savings, debt payment, or overall life enjoyment!


How To Sell A Used Car


In case you want to sell your car before purchasing a new one or want to be prepared to sell the new purchase yourself, I've written out the process below.


How To Sell A Used Car

Should I Pay Cash Or Get A Loan For The Car?


Car financing is not cheap right now as interest rates have increased. This leads me to lean even more into recommending you pay cash for a car. This is because it hurts more to spend saved money vs. loaned money. That next $1,000 hurts a little more to pull from savings than to finance and because of that, you pay attention to the next $1,000 and it isn't hidden in a monthly payment for some random service fee. However, financing is a viable option if it means having a more reliable or slower-depreciating car that suits your needs and comes at a fair price. One of the best lenders I have found who has reasonable rates and will lend for vehicles over ten years old is PenFed.


Car Depreciation


I'm going to borrow a few words from Click and Clack from CarTalk here:


  • Cars typically lose around 60% of their value in the first five years of their life, so if you are trying to stretch your dollar, consider 3 to 5 year-old cars (or older) 

  • Purchase a car that depreciates slowly, like a Toyota Tacoma.

  • Purchase a car that is reliable and has low maintenance costs. Lucky for us, yourmechanic.com (a mobile mechanic) has compiled their maintenance data for consumers like you and me.



Fast Depreciating Cars


Slow Depreciating Cars

Some real-life examples that I've seen depreciation be painful for the buyer is a Mercedes AMG purchased for $62k and 3 years later it was worth around $30k. This hidden cost of $10,000 after taxes per year is often much steeper than the buyer intended. Another Mercedes was purchased for $38k and sold 5 years later for $8k. Luxury brands are a great way to stay behind financially. They should only be purchased by those aware of the exorbitant depreciation cost and the buyer should value that expense over the other travel, giving, and living expenses available.


Car: Buy Vs. Lease


Leasing a car does not move the depreciation from your books to the dealership's books. They calculated the expected depreciation into your monthly payment. This is why two cars may have the same MSRP but the higher depreciating one will have a higher monthly payment. Leasing is for the wealthy who want a constant new car and the convenience in their lease agreement is worth the mileage restriction, extra cost, and decision to buy or return the vehicle at the end of its lease. Leasing is something I typically stray from unless it's a luxury that client values and can afford.


What Kind of Car Do I Drive?


I used to be proud of never spending more than $6,500 for a car (2000 toyota 4runner), and piling up the highway miles between Greensboro, Charlotte, and Boone. However, as I've gotten older my budget has increased and I purchased a 2015 Toyota Tacoma for all of the reasons listed above. However, if you are still on the lower budget side of things I have included a video that shows a few low-cost car options for someone who may be in the frugal car range of sub $10,000. Low-priced cars come with their appearance and mechanical flaws. But no one ever wanted someone who was always after the new model. being comfortable with your cars flaws might make you more comfortable with your own, and we could all use a little more contentment. Consumer reports wrote a more detailed comparison on buying vs. leasing HERE.


Closing


This 10% - 30% rule will not apply to every scenario, however, it is a great place to start the conversation. After reading the data/thought stream above, I believe you will be a more informed consumer. Both in what your price range should be and in what other variables you should be aware of when it comes to purchasing a vehicle. As always, I recommend talking with a fiduciary financial planner if you are second-guessing a large financial decision.

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