Things to consider when financing a car

Paying cash is the cheapest option when you have it to spare. There are no borrowing costs, no repayments and you don't need to go through the process of applying for a car loan.

If you don't yet have the cash on hand, you'll need to budget and save. Realistically, how long will that take?

If you choose to pay cash, how sound will your finances be once you've made your purchase? Would running and servicing costs lead to cashflow problems further down the road? And would you be able to cope with any unforeseen expenses?

If you're able to pay with cash, it ultimately comes down to personal circumstances as to whether it's the best option or not.

Many financial counsellors suggest the total amount you spend on a car (including registration, insurance, maintenance and consumables as well as the loan repayments) should not exceed 10-30 per cent of your gross income. If your budget is 10% of your annual income on your car and you earn $72,000 a year before tax, your total expenditure on your car – including the loan repayment – should not exceed $600 a month

If you spend $60 a week in fuel, plus $40 a month for maintenance, perhaps $70 a month for registration and a similar amount again for comprehensive insurance – or more, depending on the car and your driving record – you're left with $140 a month for a loan repayment.

That's not much, but it is enough to cover repayments for a $6000 personal loan, paid back through a major Australian bank over a five-year period.

As a yardstick, a loan of $50,000 will require repayments of around $1100 per month based again on a five-year loan period.

Your ability to service the loan (ie: make repayments without being stretched) will depend on your personal situation.

Do you live with your parents? Are you independent, but raising a family? Do you already have fixed financial commitments like a mortgage, for example? Maybe you're retired, or an expert player in the share market. Perhaps you're a farmer, with limited income throughout the year.

All of these considerations, and others, will have some impact on your ability to service a loan.

Among the other considerations, there is also the purchase price of the car, plus your lifestyle choices and the number of dependents. Dependents may include your spouse, children and aged parents living under your roof.

Everything you need to know about car finance

It’s simple mathematics, the shorter the loan period you choose, the less interest you will pay. And the lower the overall cost of your new car.

Many loan agreements will have establishment and other upfront fees. Consider paying cash for those fees where possible. This will minimise the amount you need to borrow and finance.

Using a credit card to buy a car may seem like a convenient option and you might be keen to receive the rewards points, however, it's important to do your research beforehand. The last thing you want is for your $30,000 new car purchase quickly turning into an even more significant commitment, courtesy of sky-high interest rates.

Be sure to fully understand the terms and conditions of your card including its interest rates, limit, and any associated surcharges before making any such purchase.

Car dealers pay a merchant surcharge when their customers use a credit card as the method of payment, and this can range anywhere between 1-3%. In most cases this surcharge is passed directly on to you.

If you’re preparing to buy a new car with finance it is sensible to pay down existing debts. Showing you are paying off existing debts (or saving money) goes a long way to improve your chances of being approved for a loan. It demonstrates to lenders that you have the income to spend on car finance and car running costs.

Car finance is a serious commitment and you should consider the implications of borrowing a large sum of money to buy a car. The Federal Government’s MoneySmart website is a great resource when looking for information on all aspects of borrowing, credit history, credit score and other aspects of consumer finance.