Cash News
For most Americans, having reliable transportation is a must. So, when the time comes to replace your current vehicle (or buy your first car), it’s important to figure out how much money you need to save in advance.
There are numerous costs associated with buying a new or used car. Unfortunately, there’s no hard and fast answer to how much money you need to save for a car purchase since it’s different for everyone.
The following guide will help you understand the details to consider as you begin to set aside money for an upcoming car purchase, as well as how to supercharge your savings so you can reach your goal as fast as possible.
To determine how much money you need to set aside for your next vehicle purchase, it can help to break the process down into more manageable steps. Here’s what you need to know.
The first step is to understand how much car you can afford. The questions below can help you calculate the amount you should spend on a vehicle without putting yourself in a financial bind.
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What is your monthly take-home (aka net) income?
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Do you owe other existing debts?
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Do you have a trade-in vehicle, and what is its estimated value?
Many experts recommend keeping your car payment below 10% to 15% of your net income. But the value of your trade-in vehicle, if applicable, could also affect your purchasing power here.
For example, if you have positive equity in your trade-in, the value of that vehicle could lower the purchase price of your new car. On the other hand, if you owe more on your current vehicle than what it’s worth, you may need to save up enough cash to pay off the negative equity before you buy a new car.
Depending on your situation, there are several ways to buy a new or used vehicle. And the money you save up-front can vary depending on your preferred method of purchase.
In 2023, 80% of new vehicle purchases and 38% of used vehicle purchases relied on financing — either a loan or lease — according to the Federal Reserve. Many buyers also used a combination of financing and cash to purchase a vehicle (car buyers provide a down payment to their lender to help reduce the purchase price of the vehicle).
With each method, there are benefits and drawbacks to consider.
Leasing
This tends to be more affordable up-front (requiring less initial savings) and monthly payments are often lower as well. But lease agreements come with mileage restrictions that may be too prohibitive for many drivers. The vehicle also never belongs to you (unless you opt to purchase the car at the end of the lease).
Auto loan
You could choose to finance your car, as many people do, so you don’t have to worry about mileage restrictions, and you can own the vehicle outright at the end of the loan term. Yet it might take you more time to save a down payment for an auto loan.
In general, it’s wise to save at least 10% of the purchase price as a down payment for used cars and a 20% down payment for new vehicles. That means if you plan to buy a $20,000 used car, you need to save a $2,000 down payment first. However, the exact down payment you need to save for your car loan could differ depending on your credit score, income, existing debts, and other factors.
Pay cash
Paying with cash is the most expensive option up-front. If you don’t have a surplus of funds already in savings, it will take time to save sufficient cash for your vehicle purchase — a luxury some people may not be able to afford if they need transportation sooner rather than later. But when you pay in cash for a car, you can avoid the added cost of interest charges, potentially saving you thousands of dollars in the long run.
3. Consider your credit and existing debts
If you decide to finance your vehicle, it’s important to consider the details that could impact the cost of your loan. Lenders will consider your risk as a borrower when you apply for financing. So, it’s helpful to know your credit score and, if possible, your debt-to-income (DTI) ratio before you apply for a car loan. This information can help you know how much money you need to save before you buy a car.
With a good credit score and a low debt-to-income (DTI) ratio, you’re a low-risk borrower and may qualify for better borrowing terms on an auto loan. But with bad credit and/or a high DTI ratio, a lender might charge you a higher interest rate, ask for a larger down payment, or even request a co-signer. These details could impact your monthly car payment and, of course, the amount you need to save before you purchase a vehicle.
Credit score
According to the , you’ll typically be eligible for the most competitive interest rates if you have a FICO score of 720 or higher (though it also depends on other factors on your loan application). If you have a score below 720, you may want to improve your credit before applying for an auto loan. Otherwise, you’ll likely be charged a higher rate.
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DTI
In general, you need to demonstrate a DTI that’s lower than 45% to 50% before you can qualify for an auto loan. Yet with a higher DTI, you might pay more for financing. Many lenders consider a DTI of 35% or less to be ideal.
If you have a higher DTI ratio when you apply for an auto loan, you might also need to save more money for a down payment — either to satisfy the lender or to reduce your monthly payment to a level that’s more manageable. It’s also important to remember that even if a lender approves you for financing, you should consider your own . Make sure you’re comfortable with the monthly car payments and overall interest charges before you commit to a new loan.
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Keep in mind that saving for a car doesn’t end with your down payment costs. You should also plan ahead for other expenses like potential state sales taxes, license and registration fees, and vehicle inspection costs. Depending on your state of residence, these fees might range anywhere from zero up to a few thousand dollars.
You’ll also need to get insurance on your new vehicle after your purchase. If you’re able to pay for six to 12 months’ of premiums up-front, you might be eligible for a sizable car insurance discount, depending on your policy. It’s also a good idea to go ahead and have some cash set aside for car maintenance costs and possible repairs — especially if you’re buying a used car that’s not under warranty.
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Once you understand your budget and how you intend to buy your next vehicle, you should be better prepared to begin saving for an upcoming car purchase. The following tips can help you reach your vehicle savings goals faster.
A high-yield savings account (HYSA) can be a useful tool when you’re putting away money toward a big financial goal like a new vehicle purchase. This type of deposit account typically earns better interest rates compared to traditional savings accounts — as much as 4% APY or higher. The more interest you earn, the faster your balance will grow.
Putting your savings contributions on autopilot could be beneficial as you save money for a new vehicle. You might find that it’s easier to stay on track with your goals and reduce the temptation to spend your cash on unplanned purchases.
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It’s important to use a budget so you’ll have a plan when it comes to your income and expenses. And if you haven’t updated your budget in a while, you might want to make sure you’re still spending your cash in the wisest ways possible — especially before you start a new savings goal like preparing for a new car purchase.
As you update your budget, look for ways to cut expenses so you can save money faster. Paying down high-interest credit card debt may be a great place to start. But you can also look through your monthly expenses for other opportunities to save.
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