The 20/3/8 Rule for Car Buying Affordability

The 20/3/8 rule is a smart money guideline for car buying rule on affordability when financing a car that fits within your budget and avoids financial ruin. Here's what each number represents:

20 - Put at least 20% down payment 

Making a 20% down payment reduces your loan amount, typically gets you better interest rates, and helps offset the initial depreciation of the vehicle. This substantial down payment also helps you avoid becoming "underwater" on your loan, where you owe more than the car is worth.

3 - Limit the car loan to 3 years 

Keeping your auto loan to 3 years or less helps you:

• Pay less in total interest

• Build equity in the vehicle faster

• Avoid the risk of having a car payment when major repairs might be needed

• Stay motivated to purchase a car you can truly afford

8 - Monthly payments should not exceed 8% of your gross monthly income 

This 8% cap on monthly payments includes:

• The car payment itself

• Insurance costs

• Fuel expenses

• Regular maintenance

For example, if you earn $5,000 monthly before taxes, your total monthly car expenses should not exceed $400.

Practical Application: Let's say you're looking at a $25,000 car:

• Down payment (20%): $5,000

• Loan amount: $20,000

• Loan term: 3 years

• With a 5% interest rate, monthly payment would be about $600

• Add $150 for insurance and $200 for gas/maintenance

• Total monthly cost: $950

In this scenario, you would need a monthly gross income of at least $11,875 ($950 ÷ 0.08) to follow the 8% rule.

Why This Rule Works:

• Prevents overextending your budget

• Ensures you maintain financial flexibility for other goals

• Reduces the likelihood of becoming "car poor"

• Accounts for the total cost of car ownership, not just the purchase price

Remember that this is a guideline, and your specific situation might require adjustments based on factors like:

• Local cost of living

• Other debt obligations

• Public transportation alternatives

• Family size and needs

• Commuting distance

How Credit Score Affects Interest Rate:

Credit Score	Average Interest Rate
781-850	7.41%
661-780	9.63%
601-660	14.07%
501-600	18.95%
300-500	21.55%
Source: Google Search Labs AI Overview 12/20/2024. BiggerReward.com

Additional Car Buying Tips:

• Buy a pre-owned vehicle 2-3 years old. A car loses on average 50% of its value in the first three years of ownership.

• Purchase pre-certified when possible to avoid costly maintenance and repairs

• Buy reliable car brands a models (e.g. Honda, Toyota, Lexus, Subaru) and avoid unreliable brands (e.g. Chrysler, Mercedes-Benz, Rivian)

• Run car history reports

Grid 1: Following the 20/3/8 Rule

The car buying grid example below illustrates what your maximum payment would be using the 20/3/8 rule and examples prices following the rule of 20% down payment, 36 month average loan term and used car 9.63% interest rate.

Grid 2: Not Following the 20/3/8 Rule

The car buying grid example below illustrates what your maximum payment would be using the 20/3/8 rule versus how most Americans purchase and finance a car. We've included the 0% down payment, 70 month average loan term and used car 9.63% interest rate.

Additional Resources:

Car Affordability Calculator (coming soon)

Auto Loan Calculator

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