What is a down payment? And how much should you put down?

It’s part of our car buyer’s glossary series to break all the requirements to find out if you’re buying a new or used car from a dealership.

A down payment is the amount you pay when you finance a new car. Right? What else is there?

Well, a lot. But you’ve got the basics down. The down payment is actually the money you pay at the time of purchase. Down payment is determined when you apply for financing. There is usually a minimum down payment for the loan, although it is usually not a problem to keep more than that.

Typically, you want to make a down payment equal to 20% of the car price.

20 percent? That’s a lot! I don’t have that kind of money.

We listen to you. That’s a lot of money. But there are many benefits to keeping it below 20 percent. Remember, the second time you drive a car out of the lot, it’s a used car – and its value is instantly lower. And you keep reading as you put miles on it. When you buy a car it is a fact of life.

But keeping money down “neutralizes” this loss of value. If something wild happens – like hitting a meteor dealer just like you do in the paperwork – your car will not have negative equity. This means you won’t owe more than its value.

A meteor, huh? Well, I’m not worried about that.

It was a ridiculous example, but it was a dry subject and helped to make it a bit spicy. Right?

[Sigh]

Okay, back to the subject at hand. Putting it further down the front will save your interest a lot more down the road. Anything that turns into your debt, pays you interest. And if your credit score is good but not great, then saving more money will help you get a more attractive loan. Remember, the less a bank lends to you, the lower the risk to the lender. Lenders hate risk.

This all sounds great, but have you seen my bank account?

Well, if you need to save less money, you can protect yourself at least a little bit with Gap Insurance. For some buyers, this is a good move.
You can read more about gap insurance here.

And you have trade-in! This is calculated as part of your down payment. Make sure you know what a fair trade-in value for your car is before you go to the dealer. The trade-in value is usually much lower than what you can get by selling the car yourself. After all, the dealer must make a profit. But unless your trade is a total pile, it will create a hole in what you need to keep down.

Should I take out all the french fries from under the seat before the dealer sees my trade?

Yes. Go do it. And also you are making us hungry for french fries.

Sorry? (Sorry.)

It must be lunch time. Anyway, do you want to pay zero for your next car?

Hey, what? You’re telling me to do 20 percent full time here!

You are right. The zero percent down deal is really meant to get people to the door. Once they get there, they know they are not eligible for such a deal. You need really great credit for doing this. And again, these would mean that you have to spend for these processes. It is expensive over time, your car will have no equity and you are probably not going to get it. Remember, just because you can do something doesn’t mean you should. Drink french fries instead of salads.

Okay, enough with the food analogy.

That’s right. We’re done with almost everything. While you don’t have to keep 20% less on each loan in each situation, this is a good rule of thumb and a starting point for thinking about how and why a down payment can be made. Good luck with your purchase!

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