How Much Down Payment Should You Make on a Car

Are you planning on buying a used or new car? If yes, one of the first questions that come to mind is how to finance the purchase. Generally, you can pay for the vehicle in cash or with a loan. If you are considering getting an auto loan, a down payment is a vital aspect to consider.

A car down payment will impact your loan terms and interest rates. So, how much down payment should you make for a car? Below we'll explain the minimum amount you should have for a down payment for new and used cars.

The minimum down payment for used and new cars

A down payment is a partial and upfront payment you may need to make to purchase a car. You can settle it either in a trade-in or cash.

Generally, there is no rule on how much down payment you should have. However, if you want to buy a used car, you should strive for a down payment of at least 10%. The average cost of a used car is $27,156, meaning that the least down payment should be about $2,715.6.

On the other hand, if you wish to buy a new car, you may want to make a down payment of 20% of the vehicle's purchase price. The average cost of a new car is $48,681, so the ideal down payment would be at least $9736.2.

The more down payment you can make, the lower your monthly payment and the less interest you will pay over the life of the loan. However, if you cannot afford the 10% or 20% amount, you can opt for a lesser amount that will not drain your emergency funds or savings.

Reasons why a down payment is essential

Different dealers have varying requirements for the down payment you should make. Despite the differences, a down payment can accrue you several benefits. Here are some of the reasons why a down payment is essential.

1. Easier access to an auto loan

If you have bad credit, a down payment can be extremely helpful. Generally, many lenders are sceptical of providing loans to people with bad credit. They consider them to be a risky investment. However, if you make a significant down payment on the car, lenders may be more willing to approve your auto loan application, especially when you have a FICO score of about 620 or below. In addition, you may qualify for financing with better terms and a lower interest rate if approved.

Therefore, a down payment ensures easier loan access if you have bad credit. Some lenders would also need people with bad credit to make a down payment before discussing any financing options. Either way, it will help ease your loan approval process.

2. Lower interest rates

A down payment for a car will increase the lender's trust in you. The lenders will begin to view you as a low-risk borrower. One major point to note is that the more down payment you make, the lower the interest rate.

The opposite is also true; the less the down payment, the higher the interest rate. Despite the amount of down payment you choose to make, you will still have a lower interest rate than financing your car with a zero down.

3. Helps avoid negative equity

A significant down payment will increase your equity level as you will not need a high loan amount from your lender. Generally, vehicles are depreciating assets. Your car may lose at least 20% value during the first year after purchase.

Thus, the down payment will help protect your asset from depreciation, as the equity will serve as a buffer. If you make a less than 20% down payment for a new car, you may owe more than your car's worth. Owing more than the value of your vehicle can make it challenging to trade in or sell the car. However, a sizeable down payment will ensure you will be less likely to pay for a loan that is more expensive than the value of the car.

4. Lower monthly payments

Putting more money down helps reduce the overall amount you will need from lenders, thus, reducing the monthly payments necessary to settle the loan. For instance, if you need to borrow $35,000 at 4.5% for 60 months, you will pay $653 per month.

However, with a 20% down payment of $7,000, you will reduce the amount you need to borrow to $28,000. The result is $522 monthly payments. You can use an auto loan calculator to determine your monthly payments for the specific down payment you wish to make.

5. Lowers the loan-to-car value ratio

Most lenders have a specific amount you can borrow depending on the car's value: the loan-to-value ratio. The loan-to-value ratio is a crucial element in loan approval. Each lender has its own LTV rules for auto loan approval. However, in most cases, a sizeable down payment will ensure you meet all the lender's loan-to-car value ratio requirements.

When you borrow less than your vehicle's overall cost, you stand a higher chance of getting the loan. It is because the lenders will have less risk of losing money if you choose to default on the auto loan.

Is zero down payment a bad idea?

A zero down may be okay if you do not have any money to put down. However, it is not a good idea when buying a vehicle. Some experts establish that a down payment is unnecessary, especially if you can score 0% APR, which most people cannot meet.

In addition, some dealers will provide the zero-down option. However, it is one of the biggest traps as the dealerships stand to benefit more with higher interest rates. Also, zero down increases the chances of an upside-down loan.

The zero-down offer facilitates longer loan terms with higher monthly payments, thus, ensuring you enjoy more disadvantages than when you make a down payment. The best thing to do is to avoid a zero down if you can afford to make a down payment on your dream car.

Final remarks

How much down payment you should make on a car depends on various factors, which can impact your overall financing. If you are going for a used car, put down at least 10% of the car's price. On the other hand, go for the standard 20% for a new vehicle, but more is always better if you can afford it. However, a higher down payment will ensure you enjoy several financial benefits, such as low monthly payments and interest rates.