Determine your Budget
 

Financial experts recommend spending no more 12 to 15 percent of your after-tax monthly income for car payments.

To calculate how much car you can afford, multiply your monthly net pay (take-home pay after taxes are deducted) times 15% (.15). Your car payment should not exceed this general guideline.

The 15-percent rule is just a guideline. Depending on your life stage—and income—you may need to depart from it. For example, if you just graduated from college and are in your first job, you may be receiving an entry-level salary. In this case, a car payment equal to 15 percent of your take-home might not buy you much car. Assuming your other expenses are reasonable, you may need to borrow a higher percentage of take-home in order to purchase a quality vehicle.

Conversely, if you are a baby-boomer in your peak-earning years, you may be able to purchase a great car for much less than the 15% take-home figure.

Also keep in mind there’s more to the cost of a car than purchase price. Also factor in the operating costs (fuel, maintenance, etc.) and insurance. This can be a significant cost item, especially for high-performance vehicles. So think through how much you’re willing and able to pay for insurance each year before you begin car shopping. This will help you to avoid “falling in love” with a car that’s exorbitant to insure.

You’ll also want to consider the costs of taking out a car loan.

Decide whether to buy New or Used
 

Years ago, cars were much less dependable. That made buying a used car a risky bet. Today, with new cars having far fewer defects, the chance of buying a clunker is much lower. Still, it pays to know when it makes sense to buy used—and when it doesn't.

Here are advantages and disadvantages of buying a used car.

Advantages:

Used cars are more reliable than in the past. According to Consumer Reports, the reported problems per hundred vehicles has declined tremendously over the last 20 years.¹

With a used car, you can buy the same car for less money. Example: a new Honda Accord LX costs around $21,500. Purchasing a similarly equipped two-year-old Accord with 24,000 miles will save you roughly $4,000. You can save even more buying a car that doesn't hold its value as well as a Honda Accord.²

With a used car, you can buy more car for the same price. For example, you might pay $18,000 for a new sub-compact. For that money, you might be able to afford a used full-sized car.

Certified pre-owned cars provide peace of mind. Some dealers put their used cars through a rigorous screening, then sell them with a manufacturer's warranty. These cars cost more, but provide greater peace of mine than do non-certified vehicles.

Used cars do not depreciate as rapidly as new cars. According to Consumer Reports, new vehicles lose about 45 percent of their value in the first three years, followed by 25 percent during the next three.³

Used cars are less expensive to insure. Since they're less expensive to replace due to depreciation, your insurance premium for a used car can be significantly lower.

Disadvantages:

Used cars may have been abused by their prior owner. Be sure to have your mechanic inspect any used vehicle before you buy it.

Used car loans are more expensive than new car loans. The difference—about a percentage point of interest—is not substantial, but does make for slightly higher monthly loan payments.

Used cars don't have the latest safety features. Don't expect a used car to have leading-edge safety technology such as smart air-bag systems or stability control.

¹"Pros and Cons of Buying a Used Car", Consumer Reports, June 2009, viewed 8/3/2010 www.consumerreports.org/cro/cars/new-cars/buying-advice/pros-and-cons-of-buying-a-used-car-206/index.htm
²About.com, "Help for Car Buyers, 2007", www.edmunds.com/honda/accord/2008/index.html
³Consumer Reports, "Used vs. News: Do the Math"

Decide whether to Lease or Buy
 

You can’t make the lease/buy decision without understanding the mechanics of leasing. This involves knowing all of the provisions of a lease contract and knowing your initial, ongoing, and final leasing costs.

Will you save money leasing instead of buying? It depends on (1) how good a deal you can strike with the dealer, (2) how many miles you put on a car, (3) how much wear and tear you put on a car, and (4) what you will use the car for.

To decide whether to lease or buy, you should consider the costs and other factors involved in both leasing and buying:

• Your initial costs
• Your ongoing costs
• Your final costs
• Your option rights
• Whether you will be able to deduct any of the costs of the car for business use
• Whether having an ownership interest in the car is of overriding importance

This Guide also contains a list of questions you should ask the dealer to ensure that you don’t neglect to ask about any charges or lease terms that might enter into your analysis.

How Leasing Works

There are two types of lease arrangements: closed-end ("walk-away") and open-end (finance). Here’s how they work:

Closed-End Leases: The Dealer Bears The Risk Of Depreciated Value

When a closed-end lease is up, you bring the car back to the dealership and "walk away." You must return the car with only normal wear and tear, and with less than the mileage limit stated in your lease. Since the dealer, and not you, is bearing the risk that the value of the car at the end of the lease will go down, your monthly payment is higher than with an open-end lease.

Open-End Leases: You Bear The Risk of Depreciated Value

With the open-end lease, you bear the risk that the car will have a certain value, called the estimated residual value, at the end of the lease. The monthly payment is lower because of this risk factor.

When you return the car at the end of the lease, the dealer will have the car appraised. If the car’s appraised value is at least equal to the estimated residual value in the agreement, you won’t need to pay anything at the end of the lease term. Under some contracts, you can even receive a refund if the appraised value is higher than the residual. If the appraised value is lower than the residual value, however, you may have to pay all or part of the difference.

Tip: If you disagree with the value arrived at by the appraiser, have an independent appraisal made (at your own expense) and then try to negotiate an agreement with the dealer as to the residual value. Sources of independent appraisals include other dealerships or (if available) a vehicle appraisal service.

Determining Your Costs

Your total lease costs will consist of

1. Your initial costs
2. Your continuing costs
3. Your final costs
4. Your option costs (if any)

The federal Consumer Leasing Act (CLA) limits how much the dealer can collect at the end of the lease period. The CLA says dealers cannot collect more than three times the average monthly payment. However, the dealer can collect a higher amount where:

• The vehicle has unreasonable wear and tear or miles greater than specified in the lease
• You agreed to pay a greater amount than specified in the original contract
• The leaser wins a lawsuit asking for a greater amount

The dealer also has the option of selling the car at the end of the lease term. If the car is sold for less than the residual value stated in your leasing contract, you could be obligated to pay as much as three monthly payments to make up the difference.

Tip: Although dealers will generally not risk the goodwill of their customers and sell leased cars for less than the residual value just to move the car quickly, you may want to negotiate to include the right to approve the final sales price of the leased vehicle as part of your lease agreement.

Your Initial Lease Costs

In deciding whether to lease or buy, find out what your total initial costs will be. This is part of the total dollar amount you will arrive at to compare with the cost of buying.

Initial costs are the down payment you must come up with when you lease a car. They include the security deposit, the first and last lease payments, the capitalized cost reductions, the sales taxes, title fees, license fees, and insurance. With a lease, the initial costs usually total less than the down payment needed to buy a car. Further, all initial costs are subject to negotiation during your bargaining with the dealer.

The federal Consumer Leasing Act requires the lessor to disclose all up-front, continuing and final costs in a standard, easy-to-read format.

Security deposit. The lessor is allowed to keep the security deposit if you owe money at the end of your lease or if you missed a monthly payment. The security deposit can also be used by the dealer to cover damage to the car or mileage in excess of the limit specified in the lease. If you do not owe any money on the lease at the end of the term, your security deposit is returned to you.

First and last lease payments. The first and last months’ payments are usually required to be put down at the beginning of the lease agreement. Under some agreements, the last payment might be waived if you have a good credit rating.

Capitalized cost reduction. This is similar to a down payment. The dealer may ask you to put a certain amount of money down before leasing. The amount of the capitalized cost reduction varies with the business custom prevalent in the geographic area and the credit rating of the customer. The greater the down payment, the smaller the monthly payment under the lease. However, most people who want to lease instead of buy don’t want to put down a large down payment, and the lack of a down payment is one of the major advantages of leasing.

Tip: Trading in your old car can reduce your down payment and/or your monthly payments.

Sales tax, title fees, and license fees. The CLA requires the dealer to disclose sales tax, title and license fees in writing. It also requires the dealer to tell you how much coverage and what type of insurance is required. Some states apply a "use" tax, which is similar to a sales tax, but is added to each monthly payment.

Your Continuing Lease Costs

The next amount you must determine for the purposes of your lease-versus-buy comparison is the continuing costs of leasing. These include monthly payments, and repairs and maintenance.

Similar to a loan, the monthly lease payment is dependent on the term of the lease, the initial "purchase price" of the vehicle and the implicit interest rate. Unlike a loan, another important factor is the "lease-end" or "residual" value. This is the expected value at the end of the lease term.

In a lease you are effectively paying for the difference between the initial purchase price and the residual value. You should negotiate the best possible (lowest) purchase price. This will lower your cost of leasing. If this is a closed-end lease and you do not intend to purchase the car at the end of the lease term, you should also try to negotiate a higher residual value

Example: If you walk into a dealership and ask to lease a car, they will often try to base the lease on the Manufacturer’s Suggested Retail Price (MSRP). You would never pay this sticker price to purchase a car for cash, so you should not do so in a lease situation. You should first negotiate the lowest possible price on the vehicle and then negotiate the lease terms.

For example, assume a car has an MSRP of $36,955 (and the lease provides for a term of 36 months, an implicit interest rate of 6.67% and a residual value of $25,895). Based upon this MSRP, the monthly lease payment would be $481.50, excluding sales/use tax, licenses, etc. The invoice (dealer) cost on the same vehicle is $32,469 (see InfoSources at the end of this Guide to find out how to get this information.) If you negotiated a price between MSRP and invoice, say $34,750, the lease payment would be reduced to $416.00.

Tip: Professional guidance may in some cases be helpful in comparing the continuing costs of buying

Note: Purchasing the same car at the negotiated price under the same terms with no down payment would result in monthly payments of $1067.74.

The CLA requires dealers to disclose the total number of payments, the amount of each payment, the total amount of all payments, and the due date or schedule of payments. There is usually a penalty for late payment, which the lessor must disclose to you.

Tip: The expenses of operating your vehicle should also be taken into account. As part of your negotiations, try to make the repair and maintenance one of the terms of your lease.

• In a "maintenance lease," the dealer assumes the maintenance expenses. Conversely, in a "non-maintenance lease," the customer assumes these expenses. If the dealer is to provide repair and maintenance, you will have to bring the car to the dealership in accordance with the manufacturer’s suggested schedule in order to keep the warranty coverage. (Even if you have to pay for repair and scheduled maintenance, you usually have to observe the manufacturer’s scheduled maintenance in order not to jeopardize warranty coverage.) 
   
• The lease may contain a "budget maintenance" provision, authorizing the dealer to collect a set amount from you each month for maintenance. If maintenance expenses are incurred, the dealer deducts them from your maintenance account. At the end of the lease, you’ll have to make up the difference or you’ll get a refund if you’ve deposited more than was used. If you would like extended warranty coverage, some dealers offer it at extra cost.  

Tip: Lease agreements often require that a minimum level of insurance be maintained on the vehicle. You should consider whether your continuing insurance costs are higher on a lease than on an outright purchase. Also watch out for lease provisions where the lessor will purchase the insurance and bill you for the amount. This can be more costly than if you arrange the insurance yourself.

Your Final Costs

1. Excess mileage charges
2. Default charges
3. Excessive wear and tear charges
4. Disposition charges

Excess mileage charges. Mileage limitations usually occur with a closed-end lease. If you have gone over the allowable mileage at the end of your lease, you will have to pay a fee. With an open-end lease, although there is no penalty, if you exceed the mileage limit the appraisal value at the end of the lease term will usually be lower.

Tip: Consider carefully whether the mileage allowance is enough. Make some calculations of the miles you have driven per week, month, and year to find out whether the mileage allowance is sufficient. Be aware that the low-mileage lease deals currently popular in certain areas offer mileage limits that are insufficient for many people. If you think you need more than the allowable mileage, negotiate a larger mileage allowance in your lease.

Tip: If you stay under the mileage limit, you don’t get a refund.

Default charges. These cover any payments or security deposits that the dealer does not receive from you and legal fees and costs the dealer incurs to repossess the car.

Excessive wear and tear charges. You’ll have to pay charges for excessive wear and tear when you return the car at the end of the lease, unless the contract reads otherwise. The dealer must tell you in writing the specific definition of excessive wear and tear. Generally, it means anything beyond normal mechanical or physical usage.

Disposition charges. These are the costs of cleaning the car, giving it a tune-up, and doing final maintenance. If the agreement does not state otherwise, the dealer may pass these costs on to you.

Option Rights

Your option rights include the right to (1) purchase, (2) extend or renew, and (3) early termination.

Purchase Option. Your lease may include the option to purchase the car at the end of the lease term. This option is usually found in open-end rather than closed-end leases. Under the CLA, the dealer must tell you the estimated residual value of the car and the formula that will be used to determine your purchase price at the end of the lease.

Tip: If you think you might want to buy the car, be sure the purchase option is in your lease before you sign it; otherwise you’ll have to renegotiate later, at which time you may have less bargaining power.

Renewal Option. You should negotiate the right to extend or renew as part of your lease. Sometimes the lessor will reduce your cost if he knows you might want an extension of the contract.

Early Termination Option. If you terminate your lease after, say, 36 months on a 48-month lease, you will have to pay an extra charge, based on the difference between the residual value of the car at that time and the estimated residual value at the end of the lease term (stated in the contract). The difference between these two may be great. In most lease agreements you must keep the car at least 12 months.

The CLA requires that the dealer tell you before you sign the contract whether you can terminate early, and the cost of early termination.

Tip: Look for a premature termination clause, which provides for termination prior to the end of the lease term.

Questions To Ask Before You Sign

Here is a list of questions you may want to ask the dealer before you enter into a car lease (you’ll know some of the answers):

• What kinds of leases are available and what are the differences? (We explained the two main types of leases earlier, but dealers may have variations.)
• What will my initial costs of leasing be?
• What will my continuing costs of leasing be?
• Will a trade-in decrease my initial cost or continuing costs?
• What happens if I exceed the specific mileage in my lease?
• How will my mileage allowance be enforced if I take an early termination or a purchase option?
• Can I sublease if I fall behind in my payments or want to stop leasing?
• What happens if I want to terminate my lease before the agreement is up?
• What are my options at the end of my lease?
• What costs and charges can I expect to pay at the end of the lease?

Other Factors To Consider

There are a number of other factors that come into play in the lease-vs.-buy analysis:

• When you buy a car, every monthly payment increases your equity. You’ll end up with a car (of depreciated value) you can either sell or keep. In leasing you get no equity; the monthly payment is more like paying rent. You don’t own the car at the end of the lease, though you may have the option to buy if that is included in your lease agreement. 

Tip: With leasing, you can invest the money you would have used for the down payment. If you use the car for business, whether you lease or buy, you can deduct some or all of the cost of the car. However, there are limitations. If your buy or lease an auto with a value of more than about $16,000 the amount of your annual tax deduction will be limited.

• Leasing contracts usually don’t have to be listed on a loan application; leaving your credit free for other loans. 
• Leasing provides convenience and increased cash flow, since the initial costs can be lower.

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Decide on a Car
 

Car showrooms are like candy stores. Unless you know exactly what you want, you’ll spend too much and regret it later.

As you try to decide what type of car you want to buy, consider the following:

• If you already have a car, what do you like and dislike about it
• Do you want a lot of passenger space?
• Do you want two doors or four?
• Do you prefer a standard or an automatic transmission?
• How much does prestige matter?
• What about better fuel economy?
• Is your heart set on purchasing a new car, or are you willing to settle for a well-maintained used one?
• How much can you afford to spend?

You'll also want to keep in mind such factors as resale value, maintenance, and insurance costs. It may be helpful to consult one of the many car-buying guides to help you choose a vehicle and give you information on pricing, reliability, and safety. Many are available on-line.

Once you have narrowed down your choices, you'll want to visit some dealerships and take those cars for a test-drive. When you get behind the wheel, ask yourself:

• Is there plenty of legroom and headroom?
• Is it easy to load passengers and cargo?
• Is the seat comfortable?
• Is the control panel visible and accessible?
• Is there enough trunk space?
• Does the car ride smoothly?
• Does the car have good acceleration and handling?

Copyright 2003 Forefield, Inc.

Go Shopping for a Car

Car shopping is tricky for the uninitiated. Get up to speed before you head out.

Maybe you’ve always pictured yourself driving a shiny red convertible. Or perhaps you’ve had a recent addition to the family and you’re looking for the practicality of a minivan.

Whenever you are in the market for a new car. Here are some tips to help you make the car-buying process a bit easier.

Determining your target price

Once you've settled on a car model, you should do some research on the invoice price, including the cost of any options that you want. That way, you can negotiate the price based on the approximate cost of the vehicle to the dealer, rather than try to bargain down from the sticker price. Keep in mind that the dealer's cost is often less than the invoice price because of factory-to-dealer incentives. That's why a good target price is approximately 3 percent above the invoice price, although this will vary depending on the car model.

Going to the dealership

Armed with your target price, you should be ready to begin shopping around for the best purchase price. Try to visit more than one dealership, since prices vary. At the dealership, you'll want to be sure to negotiate, keeping in mind the following tips:

Don't set your sights on just one car model. Many manufacturers offer similar models, and one may be much more affordable than another.

If you're trading in your old car, don't discuss the trade-in price until you have established a purchase price for the new car. You don't want to negate a good purchase deal by accepting far less than your trade-in vehicle is worth.

If the dealer isn't willing to give you a deal that you're happy with, don't hesitate to take your business elsewhere.

If you want to avoid negotiating over price, you may want to consider a dealer with a no-haggle policy.

Closing the deal

After you and the dealer have settled on a purchase price, you may need to sign some preliminary paperwork and give the dealer a deposit. If you need a loan to purchase the car, you'll also need to obtain financing. If you don't mind making financing arrangements ahead of time, many banks, credit unions, and auto clubs offer favorable interest rates on car loans.

At the dealership, you have a couple of financing options. First, you'll want to ask about special financing programs available through the car manufacturer. These are usually the best deals, offering low interest rates. Unfortunately, though, qualifying for these programs can be hard because special restrictions often apply (e.g., large down payment, limited payment terms).

You can also apply for a traditional car loan through the dealer, who makes additional money by arranging on-the-spot financing. But don't assume you're getting the best deal available. The interest rate on dealer-sponsored loans is usually higher than the interest rate that you would receive on your own.

Around this time, the dealer will try to sell you extras such as an extended warranty, service contract, or rustproofing. Watch out--these extras are expensive and often overpriced. If you're interested in purchasing them, be sure to negotiate a favorable price, or look into buying them elsewhere.

The dealer can also help you arrange proper insurance coverage of your car and make sure that the registration and plates are in order, or you can choose to do this yourself. In either case, once all the paperwork is signed, the dealer will hand you the keys, and the car will be yours!

Copyright 2003 Forefield, Inc.

Get Financing
 

Consider all of your options for financing your vehicle: direct loans from a bank, credit union, or finance company; loans from Internet finance providers; and dealer loans.

But financing details can be complicated, so do your homework. The advice below will help.

After you and the dealer have settled on a purchase price, you may need to sign some preliminary paperwork and give the dealer a deposit. If you need a loan to purchase the car, you'll also need to obtain financing. If you don't mind making financing arrangements ahead of time, many banks, credit unions, and auto clubs offer favorable interest rates on car loans.

At the dealership, you have a couple of financing options. First, you'll want to ask about special financing programs available through the car manufacturer. These are usually the best deals, offering low interest rates. Unfortunately, though, qualifying for these programs can be hard because special restrictions often apply (e.g., large down payment, limited payment terms).

You can also apply for a traditional car loan through the dealer, who makes additional money by arranging on-the-spot financing. But don't assume you're getting the best deal available. The interest rate on dealer-sponsored loans is usually higher than the interest rate that you would receive on your own.

Around this time, the dealer will try to sell you extras such as an extended warranty, service contract, or rustproofing. Watch out--these extras are expensive and often overpriced. If you're interested in purchasing them, be sure to negotiate a favorable price, or look into buying them elsewhere.

The dealer can also help you arrange proper insurance coverage of your car and make sure that the registration and plates are in order, or you can choose to do this yourself. In either case, once all the paperwork is signed, the dealer will hand you the keys, and the car will be yours!

Copyright 2003 Forefield, Inc.

Get Auto Insurance
 

Not all auto insurance is the same. Prices and service quality can vary depending on the insurer you select. Your job: Find the right balance between low cost and quality service.

You made some important choices about your new car. Now you need to make some equally important choices about your auto insurance. If you want the right coverage, without paying too much, here are some things to think about.

Auto Insurance Cost-Cutters To Save You Money

Buy A Low Profile Car

Before you buy a new or used car, check into insurance costs. Cars that are expensive to repair or that are favorite targets for thieves have much higher insurance costs.

Not surprisingly, the more expensive the car, the more expensive the insurance. Cars that thieves love—Porsches, Jaguars, BMWs and sports models in general—are more costly to insure. The latest study shows that it costs three to four times as much to insure a Porsche as a Ford. If you buy a used car, insurance will be significantly lower.

Tip: Call your insurance company or agent before buying a car and ask about the costs for several different models.

Avoid Duplicate Medical Coverage

If you have an adequate comprehensive health insurance plan, you should consider dropping the medical expense coverage from your auto insurance policy. This could lower your premium by up to 40%.

Maximize Discounts

Most insurance companies will reduce premiums 10% to 20% for some or all of these situations. However, you may have to bring up the subject with your agent.

• Automatic seat belts and air bags
• Anti-lock brakes
• Insuring more than one car
• No accidents in three years
• No accidents ever
• Drivers over 50 years of age
• Driver training courses
• Anti-theft devices
• Good grades for students
• Low mileage discounts
• Insuring your home or apartment with the same company
• College student living at least 100 miles away from home without a car on campus
• Not smoking
• Not drinking
• Serving in the armed forces (past or present)
• Car pooling
• Ignition cutoff system and/or a hood or wheel-locking device
• Being a doctor, lawyer, farmer, or member of a profession that the insurance company regards as a good risk
• Being female and the only driver in the household
• Renewing for longer than a year

Collect All Of The Benefits You're Entitled To

Here are some tips for making sure that you obtain a fair settlement and obtain payment on a claim as quickly as possible.

• Start a file on the accident immediately. Put into it hospital bills, police accident reports, and copies of claims you have submitted.
• Where practical, write a follow up letter summarizing any phone conversations with an insurance company representative. Include the date of the conversation and the name of the person spoken to. Put a copy of the letter in the file.
• If it is taking a long time to obtain your settlement, check your policy to see whether interim rental car expenses are covered. If so, rent a car. The insurer will be motivated to speed things along to avoid incurring this cost.
• If you feel the company is being unreasonable—is delaying or not acting in good faith—make a complaint to your state’s insurance regulator.
• If you are getting nowhere, and the claim is substantial, consider consulting an attorney.

Use Car Repair Networks

The Direct Repair Program, or DRP, is a type of "managed care" approach to getting your car repaired, available from many major insurers. The idea behind DRP's is that they will save insurers money by cutting car rental periods for loaners, by eliminating the need for adjusters and by taking advantage of discounts on parts and labor. Some of these savings should be passed on to you. In some cases, insurers have been known to take up to 20% off premiums for collision/damage coverage.

Whether most people will save much with a DRP is unclear. However, if you have a busy schedule, the DRP’s advantage is that it will certainly save you time. In addition, it can take the stress out of filing a claim.

Tip: Insurers seldom advertise their DRP's, so you will have to ask. Then get a list of repair shops near you. Skip the plan if you have to travel too far to an approved garage.

The DRP plan lets you choose between using a prescreened network of repair shops or your own mechanic. The repair shops participating in the network have already negotiated agreements with the insurance company. Use one of them and the insurance company will cover all costs except the deductible. Without this program, the old rules apply: you get the best estimate and then hope your insurer will pay.

The great advantage is that you do not have to shop for estimates because the garage is authorized by the insurer to do the repairs. Some even loan you a car while repairs are being done. And, because you do not have to wait for a claims adjuster, you will probably get your car back sooner. Sometimes the garage or the insurer also guarantees the repairs for as long as you own the car.

Before signing up for a DRP, get answers to these questions:

• Will I get a break on my premiums or a lower deductible on collision?
• Are eligible repair shops nearby?
• What if I have an accident while traveling out of state?
• For how long is the repair work guaranteed?
• Will I get a free loaner while repairs are done?

Drive Carefully And Take Your Car Key

Finally, at the risk of being obvious, drive carefully. Accidents can greatly increase your premiums as well as cause the insurance company to refuse to renew (or, in serious cases, to cancel) your policy. And don't forget to take your car key when leaving your car: a car is stolen every 19 seconds in the U.S. and over 20% have the key in the ignition.

Auto Information Checklist

When calling insurers to request price quotes, this checklist of information will come in handy.

© CPA Site Solutions