The 20/4/10 rule is a guideline that can help you make a smart and affordable car purchase. It says that you should put down a 20% down payment, finance the car for no more than 4 years, and keep your monthly payments at 10% of your gross monthly income. See how to calculate this below.
When it comes to buying a car, there is a lot to consider. You have to consider the price, type of car, fuel efficiency, and more. But one of the most important things to keep in mind is the 20/4/10 rule. The 20/4/10 rule is a guideline that can help you make a smart and affordable car purchase. It says that you should put down a 20% down payment, finance the car for no more than 4 years, and keep your monthly payments at 10% of your gross monthly income. In this article, we’ll explain everything you need to know to implement this tactic for yourself. When you follow the 20/4/10 rule, you’ll be on your way to a successful and affordable car purchase.
What is the 20/4/10 Rule for Car Buying?
The 20/4/10 rule for car buying is a savvy budgeting tool that can help you get what you need without throwing out a ton of money you’ll never regain or ending up with more debt than you can handle. More importantly, it is a very simple system. There are only three rules to the 20/4/10 rule. We’ve listed them below. Feel free to bookmark this page so you can use it for reference the next time you’re shopping for a car.
- 20- You should put a 20% down payment on your car. Always put at least this much down, and anticipate the need to save up before purchasing. If you want to reduce your payments and interest over time, you can put more money down, but it’s not necessary. Take the total cost and multiply that number by 0.2 to get 20% of the value. This is how much you will need.
- 4- You should finance your car for no more than 4 years. The longer your finance period, the more your car loses value. More importantly, your warranties are running out while you still pay for the car, leading to more out-of-pocket expenses once you own the vehicle.
- 10- Your monthly car payment should not be more than 10% of your monthly income. To calculate your percentage, find your monthly net or take-home pay total. This is the sum you make after taxes and any other automatic withdrawals like child support and insurance. Next, multiply that monthly total by 0.1 to get 10%. Don’t agree to make a payment that is higher than this number.
Pro Tip: Walking away from a car purchase is okay, especially if you feel pressured. There are plenty of cars in the world, and you should never allow predatory sales practices to push you outside your budget.
How Does the 20/4/10 Rule Help You?
Going into a car purchase ‘blindly’ with no strategy is a terrible idea. You can easily end up with far more vehicle than you can reasonably afford. The 20/4/10 rule exists to prevent that. However, there are other benefits to using this tactic. Below we’ll explain how the 20/4/10 rule helps you.
- This rule will help you make a smart and financially sound decision.
- You’ll know what to look for when shopping for the car you need.
- When you follow the 20/4/10 rule, you will be in a good position to afford your car payment and other associated costs, such as insurance and maintenance.
- You will build equity in your car more quickly, which can help you if you ever need to sell or trade-in your car.
- Putting 20% down helps you get a better deal than most 0-down or lower amounts.
- Sticking to a 4-year term means you pay less interest over the life of the loan.
- You may be able to negotiate a lower interest rate if you have a strong credit history.
- A 10% payment will leave you plenty of money for your discretionary and living expenses. In short, it won’t break the bank.
Example: The 2023 Nissan Altima S
The 2023 Nissan Altima S is a good example of a reasonably affordable midsize sedan. These are nice-looking but not too flashy cars that are fairly common and reliable. Below is the basic breakdown of how the deposit and payments look if you follow the 20/4/10 rule to buy this particular car at the listed price with no additional features.
Car Cost: $25,290
Down payment: Calculate this by multiplying the cost, $25,290, by 0.2 to get $5058 (leaving $20,232 to pay off in the next 4 years).
Your Net Income: At least $4215 per month or $50580 per year after taxes and other automatic deductions.
Monthly Payments: Calculate what you can afford by multiplying your monthly income by 0.1 to get $421.50. This is the minimum amount you must pay to have the car paid in four years, but you can pay it off faster if you prefer.
Pro Tip: Always remember that this rule is not set in stone. You can make bigger payments or a larger down. Don’t forget to factor in your trade-in if it applies.
What are the Potential Drawbacks of the 20/4/10 Rule?
While the 20/4/10 rule is a helpful guideline, it’s not set in stone. You may find that you can afford a higher monthly payment or a longer loan term. Here are some of the potential drawbacks of the 20/4/10 rule to help you make an informed decision about your next vehicle purchase.
- If you have other debts, then you may not be able to afford the 20% down or the 10% a month payments.
- You are unlikely to find your ‘dream car’ at this sensible rate.
- Saving for a 20% deposit takes time.
- The type of vehicle you need in the size you require may not fall within this guideline.
- Sometimes you have to buy a new car even when you can’t follow the 20/4/10 rule because your need for a vehicle is greater than your ability to stay within these reasonable bounds.
The 20/4/10 rule is a budgetary tool for keeping yourself within a reasonable budget when you are purchasing a car. It’s easy to let a slick, fast-talking car salesman or your own desires push you to take on more of a car loan or larger payments than you can handle. Unfortunately, since cars immediately depreciate when you drive them off the lot and continue to lose value over their lives, spending too much is a problem and a waste of money. You need a reliable vehicle to get where you’re going, but choosing something flashy or adding a tin of features ultimately leads to a bigger loss for you. Following this rule will help you stay within your budget and avoid getting upside down on your car loan (when you owe more than the car is worth). So if you’re in the market for a new car, be sure to follow the 20/4/10 rule.