What do people normally pay for a car?
It’s pretty easy to find financial experts who will tell you rules of thumb and budgeting tips to figure out how much car you can afford. It’s a lot harder to figure out whether you’re paying a normal amount for a car compared to people who make a similar amount of money.
First, let’s dispense with the bad advice you’ll find around the internet. These persist for two reasons:
- People hate math, and these have very little math.
- They sound like something a smart person would say.
Bad advice example #1: Never spend more than 10% of your annual income on a car.
Say you’re making around $50,000/year. That’s close to the US average and makes for some nice round-number calculations. You’d of course cap out at $5,000.
Bad advice example #2: You can afford a car up to your annual income.
$50,000 new car? Sweet – let’s go window shopping at the BMW dealership!
Where they both go wrong:
Clearly these two things can’t both be right – they’re not even in the same ballpark. The fatal flaw in both of these pieces of advice is that they treat money as a quantity, not a rate. Nobody makes $50,000 – they make $50,000 per year.
It may sound weird, but nobody pays $5,000 for a car. The car lasts for some certain number of years until it dies or you sell it on. You pay $5,000/(n years) for a car. Budgeting is about rates, not quantities.
Learn to budget. There are a million financial experts out there that’ve written a million books on the subject but the basics are always the same:
- Start with how much money you make per year (take-home, not pre-tax).
- Subtract all of your fixed expenses. (Rent, mortgage, existing car payments, insurance, 401(k) – stuff that costs the same amount of money every month.)
- Go through your bank statements and try to estimate all of your predictable expenses. (groceries, eating out, utilities, gas, etc …)
That’ll give you an idea of how much money you have available every month. Multiply by 12, that’s how much money you have available each year. Multiply by the number of years you expect to own a car – that’s how much you can spend.
You don’t have to spend it all.
So what’s normal?
The good news is that 10% of your annual salary is not normal. The bad news is you should probably get a calculator handy.
According to NPR’s Planet Money, American households spend about 5.7% of their annual take-home income on a car every year. This is on the car itself, not maintenance or insurance. However, that article was from 2012 and based on the US Consumer Price Index from 2011. It might be more relevant to look at the current US Consumer Price Index which pegs the number at about 6.6% annually.
Some other conventional wisdom can help us get to a bottom line here. You can expect a new car to last you about 10 years if you keep it in good shape. A used car will likely only last about 5 before repairs get really expensive.
At $50,000 income you can ballpark a take-home pay of about $40,000. This part’s really loose because state taxes vary wildly. If you want a more precise number, look at your tax return from last year or search google for “progressive tax calculator.”
- 6.6% of $40,000 = $2,640
- New car (estimated 10 year life cycle): $26,400
- Used car (estimated 5 year life cycle): $13,200
That doesn’t mean you should buy a $26,400 car. It just means that’s about the average of what people at the $50k income level did spend in 2016. You will still need to budget properly to know what you personally can and can’t afford.
If you’ve always bought used and can’t understand why people would be willing to pay a premium for a new car – well this is why. If you can be relatively assured that it’ll last twice as long as a used car, you can comfortably pay twice as much.
Buying used can be very worthwhile, especially if you’re good enough with cars (or use them lightly enough) that you can make one last for more than 5 years. If you can stretch a used car to 7 years, for example, you can adjust that $13,200 to $18,400.
If you live in a household with multiple cars you have to do this calculation on the household income and then divide by the number of cars. This is especially true if you joint-file taxes with a spouse because that’ll have a huge impact on your take-home pay.
Where these numbers can steer you wrong:
This is an average of US buying trends. They might not bear out at extremely high or extremely low incomes. They also won’t tell you if you’ve budgeted well – only where you landed relative to the national average.
Also, for these calculations to work, you’ve got to make the car last for the life cycle used in the calculation. You need to make that commitment and treat your car well.
These numbers also don’t take into account any value from trade in – but if you’re keeping your car for the entire life cycle you’re probably getting squat on trade anyway.