Here’s the new car question you should ask yourself before buying

How much new car can you afford?

Financial experts will say you can afford as much as suggested by the 20/4/10 rule – 20 percent down, 4 years, no more than 10 percent of your gross income.

But that’s not how many – maybe most – car shoppers do the math.

Instead, many do the math backwards, starting with how much of a monthly payment they can afford, and then take on whatever length of loan, or term, that they must to make that payment. It’s more a matter of how much new car they want than how much they can afford on the family budget.

Here is what’s wrong with that: For the median household income of around $52,000, the 20/4/10 rule would suggest spending no more than $5,200 a year on a vehicle – that’s $433 per month.

Over four years, that’s just around $21,000 – about $6,400 less than average Americans currently pay. With that 20 percent down payment, the vehicle purchased should total no more than about $26,000, or some $6,500 less than the average transaction price for light vehicles.

Obviously, some buyers are paying more than they should pay – or can afford – for their new cars. In the example, a 48-month loan at a typical 4.59 percent interest would result in a $475 payment.

Now let’s say that due to other financial commitments or circumstances, a $433 (or $475) per month car payment is too much, although those figures are around the typical payment of $467.

There are several ways to lower the payment: extend the term (the length of the loan in months), increase your down payment to more than the 20/4/10 recommendation to reduce the amount of money you borrow, or purchase a vehicle more in line with the available financial resources.

Many buyers choose to extend the loan terms so they still can get the vehicle they want (again, not the one they can afford given their financial situation), stretching it beyond the 48-months rule. Indeed, the typical car loan now is 66 months, with nearly a quarter going as long as 73-84 months.

Here’s how the monthly payment dips from $475 as the term lengthens: 60 months, $389; 72 months, $331, and 84 months, $290. Some loans now stretch as long as 96 months, $259 payment.

Bingo, a borrower may think, I can afford a $290 per month payment, allowing me to buy that $26,000 vehicle I like so much, so let’s go for the 84-month loan term. But you would pay for that privilege – about $1,500 in additional interest costs, nearly doubling interest of the shorter loan – over 84 months. And the interest costs on used-vehicle loans would be slightly higher to the same borrower.

Of course, those figures rise dramatically if the borrower’s interest rate rises above the typical 4.59 percent and the further that borrower strays from the recommended 20/4/10 financing rule.

Do the math correctly with calculators available on auto lender, auto-related and other websites, and at least you’ll know how to answer the question posed earlier, whether or not you live by the rule.

See the Santander Consumer USA blog for more news on auto-, auto-finance and SCUSA-related topics.