When it comes to making a budget for an auto loan, there's so much more to think about than just the cost of the car.
Total Auto Loan Budget Considerations
Your budget should be one of the things at the top of the list when it comes to starting your next auto loan. When you have bad credit, your lender is concerned about your budget, too. To help see if you have enough available income to take on a car loan, they do two calculations called your debt to income (DTI), and payment to income (PTI) ratios.
- DTI – This ratio shows the amount of available income you have after you pay your bills. Bad credit lenders typically require your DTI to be no more than 45% to 50%. This is found by taking your monthly bills, including an estimated auto loan and insurance payment, and dividing the sum by your gross monthly income.
- PTI – Payment to income ratio lets you know how much of your income is going toward your car loan and insurance payments combined. The lower your PTI, the better. Lenders generally prefer your PTI to be no more than 15% to 20% of your monthly pre-tax income. This is found by taking the sum of your estimated loan and insurance payment and dividing it by your gross monthly income.
Calculating these ratios is a good way to start budgeting for your next auto loan, but it's far from the only thing you have to take into account. There are many factors to prepare for when you're taking out a loan.
Figuring Out Your PTI and DTI Ratios
To make sure that you have the budget to finance a vehicle, it's important that you know how much available income you have to work with. Doing the same calculations lenders do when they calculate your DTI and PTI is a great place to start your budget.
To find your debt to income ratio, simply add together all your existing bills and loan payments – including your estimated car loan and insurance payments – and divide the total by your pre-tax income. The result is a percent that shows what income you have left after paying all your bills. Lender's don't want you to go broke, so they prefer you to have at least 50% to 55% of your income free after bills. However, the lower your DTI, the better.
Calculating your PTI works much the same way. Lenders typically prefer that your auto loan and insurance payments don't take up more than 15% to 20% of your income on their own. Like with DTI, though, the lower your PTI, the better. You can find what 20% of your income is by multiplying your gross monthly income by 0.20. This is the top of your range for a monthly car loan and auto insurance payment combined.
The Costs of Financing a Car
When you finance a vehicle, it's not just the car’s price you need to be concerned with. If you don't have the money to purchase a vehicle outright, it costs you to take on an auto loan. These charges come in the form of interest.
When you're struggling with credit issues, it's likely to cost you more to finance than someone with good credit. The lower your credit score is, the higher your interest rate generally is. The higher your APR, the more you pay in the long run.
However, you can save yourself some cash by paying for some things up front. By not rolling additional costs of financing into your loan, you pay less interest charges
Before you take out a car loan, consider paying these things out of pocket:
- Sales tax – Sales tax varies by state, and some don't charge it on vehicles. However, taxes can raise the cost of your car, so it's a good idea to pay them up front on an auto loan. If you roll your taxes into your loan, which can usually be done, you end up paying more in interest.
- Licensing and title fees – The cost of plating and registering your vehicle can be quite expensive in some states, but the regulations vary. Like taxes, it's often recommended that you pay these fees up front to avoid excess interest charges.
- Documentation fees – Also called dealer fees, or "doc fees," this is what dealerships charge for taking care of the paperwork involved in a car loan, and the cost varies widely. Some states cap the amount dealers are allowed to charge, others don't.
- A down payment – Bad credit borrowers are almost always required to make a down payment when taking out an auto loan. The exact amount varies by lender, but the standard down payment requirement is at least $1,000 or 10% of the vehicle's selling price. The more money you use as a down payment, the more money you can save in the long run on your car loan.
All these factors should be taken into account before you consider an auto loan. Each piece needs to be rolled into your budget, and miscalculating could end up costing you big time. Not only do these need to be accounted for, you have to remember: there are more costs to a car than a loan.
Looking at the Whole Picture
Don't forget about these costs of owning a vehicle:
- Fuel – No use having a car if you can't afford to keep it on the road. Make sure you take the cost of gas and how much you drive into account before you buy.
- Regular maintenance – It's important to have vehicles serviced regularly, so that they can keep running smoothly. Oil changes, fluids, windshield wipers, filters, tires, brakes, and the like can add up quickly.
- Emergency repairs – It's always a good idea to have a rainy-day fund set aside for any unexpected car repairs.
- Full coverage insurance – When you finance a vehicle, you're required to keep full coverage insurance on it until you pay off the loan. Full coverage is often more expensive than state minimum auto insurance coverage, depending on where you live.
Once Your Auto Loan Budget Is on Track
Now that you know where to start when you're creating a car loan budget, we want to help you find financing. Once you're ready to take the next step, you can do that right here at The Car Connection, too.
We've cultivated a nationwide network of special finance dealerships all across the country that are signed up with subprime lenders that work with people in unique credit situations. Fill out our fast, free, and no-obligation auto loan request form, and we'll work to connect you to a dealership in your area.