How Much Car Is Too Much?
Bob is saving cash for a car. How much car should he plan to buy as a percentage of his income?
QUESTION: Bob on Twitter is saving cash for a car. How much car should he plan to buy as a percentage of his income? Dave explains that a car shouldn't be worth more than half of Bob's annual income.
ANSWER: The total value of all of your vehicles—things with a motor in them—should not be more than half of your annual income. If you make $50,000 a year, you shouldn't be driving a $40,000 car. That's stupid. Why? Because they all go down in value. You're putting money in something that goes down in value, and you need to be able to financially absorb that loss without it crippling you.
Cars lose 70% of their value in the first four years. When you turn $30,000 into $11,000, you need to be able to absorb that hit. That's about $100 a week, by the way.
Let's pretend there's a bizarre circumstance where you don't have a lot of income, but you have $10 million in real estate. Then we might use a different formula. If you're worth $10 million, then you can probably afford a nicer car than your income would indicate. As a general rule, your income is a good indicator of your financial juice, so you have to think about how much you're going to put toward something that's going down in value. Rich people don't put a large percentage of their lives in things that are going down in value. That's how they became rich.
We're going to buy on a ratio of our financial situation. We're not going to buy a new car—ever—until you're worth at least $1 million. You're not going to have the total of all your vehicles—ever, except in very rare circumstances—be over half of your annual income. That tells you if you can afford to do something like this. Car payments and big car purchases will make you broke and keep you broke until you're not broke anymore.