Did you know that your debt-to-income (DTI) ratio drives how much car you can afford?
The DTI ratio divides all of your monthly debt obligations by your monthly earnings. Auto finance companies use this percentage to determine if you have the funds to pay them back.
However, the ratio is not a static percentage. Lenders also consider your credit score, which affects the maximum DTI and repayment term they will allow. In turn, the repayment term influences affordability.
Has this circular logic confused you yet? Fortunately, our online car loan calculator makes it easy to get a quick estimate of the amount a lender might approve.
How Much Car Can You Afford Based on Salary
The amount that you can afford to spend on a car based on your salary is only part of the equation. The answer could be the same for someone making $30,000, $60,000, or $100,000 – or it could be completely different.
Auto finance companies use credit scores to determine three key variables that go into the calculation of the loan amount they might approve. Salary is only one element.
- Interest rate is the cost of using the lender’s money
- The term is the length of time (months) needed to repay the lender
- Debt-to-Income (DTI) ratio compares salary to monthly obligations
The chart below depicts how a finance company might vary these three elements based on credit score.
|Score||Rate||Max Term||Max DTI|
|Better (700 – 749)||7.5%||60||50%|
|Good (650 – 699)||12.0%||48||45%|
|Poor (550 – 649)||17.5%||36||40%|
Car Loan Calculator
Use this handy online auto loan calculator to estimate how much car you can afford based on your salary, credit score, down payment, and other monthly debt obligations. Input these four figures into the calculator and get a quick vehicle price estimate that a lender might approve based on your qualifications.
Qualifying for an auto loan with low income requires a good credit score and a reasonably priced vehicle. The trick is solving to a monthly payment that you can afford – given your low income. Use the calculator above to estimate how much car a lender might approve with your meager salary.
Low-income drivers with better credit scores will have an easier time because lenders will be more lenient with the DTI and repayment-term requirements. However, drivers with lesser scores may have to look into a high-mileage clunker, which means budgeting more for repairs and maintenance.
Budget for Repairs
Make sure that your budget money for maintenance when determining how much car you can afford. People buying a brand new vehicle may have a warranty that covers defects and mechanical failures. However, drivers still need to set aside money (about $50 per month) for regular maintenance from normal wear and tear.
- Oil changes every 5,000 miles
- Brake pads and or rotors last 40,000 miles depending on driving patterns
- Tires last for 50,000 depending on driving conditions
Drivers of used or high-mileage vehicles need to budget much more for maintenance and repair. Not only might the warranty expire, but higher mileage cars often require expensive repairs more frequently.
- Timing belt and water pump replacement
- Rebuilt alternator
- Worn shocks and struts
Debt-to-Income Ratio for an Auto Loan
The debt-to-income ratio (DTI) requirements for an auto loan vary by your credit score. The chart above illustrates how the maximum DTI allowed moves with ratings. Also, the maximum repayment term allowed moves with ratings and affects affordability.
DTI = Monthly Debt Service Payments/Monthly Gross Income
Monthly debt service includes the following.
- Mortgage or rent payment
- Student loan installments
- Personal loan installments
- Credit card minimum payment
- Projected auto loan obligation
The max repayment term affects your projected monthly auto loan installment amount, which in turn goes into the DTI equation. For example, consider how the principal only installment for a $25,000 original amount changes based on the term (number of months to repay the lender).
- 60: $417
- 48: $521
- 36: $694
- 24: $1,042
High debt-to-income car loans are viable for people with the best credit scores. As the chart above shows, auto finance companies allow a higher DTI for applicants with better ratings. Also, the maximum repayment term is longer, which translates into a smaller projected monthly payment for the auto component.
High DTI borrowers with lesser scores face an uphill battle. Not only is the repayment term shorter, but the interest rates are higher as well; both push the monthly payment higher, hurting qualifications further.
High DTI applicants can take several steps before buying a car to improve eligibility.
- Debt consolidation can lower monthly obligations by extending repayment terms
- Co-applicants can add his or her income into the equation
- Co-signers can agree to make payments if you default
Many people ask whether it is better to pay down debt or save money for a larger down payment on an auto loan. Paying down credit card debt and other monthly obligations may help your qualifications in two key areas.
- Increased credit scores may result after paying down credit card debt if your revolving utilization ratio is too high. A better score can allow you to borrow more.
- Lower DTI may result after paying down debt – provided you retire the obligation in full. Otherwise, the ratio remains the same and does not improve your credentials.
Saving money for a larger down payment is the preferred option when the money does not improve your credit score and or DTI. Lenders prefer drivers who face an equity loss if they repossess the vehicle in the event of default.