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June 2014 Auto Buyer’s Affordability Index

July 9, 2014

Discussion

The June 2014 Auto Buyer’s Affordability Index (ABAI) is 52.7 on a scale of 0 to 100. A score of 52.7 indicates that a U.S. median-income buyer following the 20-4-10 auto financing rule can only afford 52.7 percent of the June 2014 new-car average transaction price (ATP). This equates to a maximum affordable price of $15,976, assuming a median income of $53,385 and an ATP of $30,342.

This month’s ABAI is up 0.8 percent from the May 2014 ABAI of 52.3. The increase was largely due to an increase in median household income, up 0.8 percent from last month.

An income of $87,360 was required to afford a June average-priced new car while preserving financial security. Analysis based on U.S Census 2012 income data, indicates that this exceeds the income of 68% of American households. Those numbers rise to $98,200 and 78% when insurance on a second car is included. However, consumers can take steps to minimize costs and improve their results.

Typically, buyers are encouraged to focus solely on monthly payments to determine new-car affordability. With interest rates at all-time lows, the increased cost of financing is not substantial. But while keeping payments low, long-term loans inflate the amount that buyers spend and erode household financial security. Without a clear understanding of overall affordability, car buyers are at increased risk of damaging their long-term financial health. Ultimate, these buyers become financially struggling car owners and poor long-term customers.

To help fill the information gap, Requisite Press recently released AffordCheck℠, a free, online financial assessment tool, based on the 20-4-10 auto financing rule. AffordCheck℠ enables buyers to quickly determine an affordable payment and price, or get an instant assessment of dealer quotes. Fully informed buyers can take active steps, described below, to save 20% or more on their new-car purchase. Savings of this amount could preserve the financial security of a million additional families.

Careful Selection of Model and Trim

Many car makers offer families of models, which along with trim selection, can result in significant cost differences while still providing safety, reliability, and reasonable comfort. For example, a buyer can select a Corolla LE instead of a fully-loaded Toyota Camry sedan and gain a price reduction of more than $10,000. All without losing a sedan’s four doors, an automatic transmission, or basic comfort features like power windows and door locks, air-conditioning, AM/FM CD with MP3 capability, and multi-information display.

When focusing on monthly payments, the cost of a Camry over seven years and a Corolla over four years look much the same. However, even with low financing rates, the additional cost will be more than $12,000.

June Index Model Comparison

Note: An interest rate of 4% was used in both cases. Zero sales tax and down payment were used for simplicity.

 

Obtaining Competitive Pricing and Financing

The final price of a new-car is largely dependent on a buyer’s understanding of the sales process. The amount paid for the same exact model and trim can vary by as much as 20 percent from buyer to buyer. First-time car buyers may simply pay the price on the car window. That price could be the manufacturer’s suggest retail price (MSRP), or an even higher price with dealer additions. Hundreds of dollars can be saved by simply being aware of invoice pricing and obtaining quotes from a couple of different dealers. However, buyers can do better.

The vast majority of new cars are essentially commodities—produced in large quantities and widely available. Given this fact, simple steps can be taken to enhance dealer competition and obtain significantly improved prices.

Buyers that obtain preapproved financing prior to visiting the dealership also are likely to obtain better financing rates. It may be that a buyer’s bank or credit union can offer a better rate, or given the competition, a dealer may beat the preapproved offer. It is unlikely that dealers will offer their best rate without competition. A better financing rate translates into an interest cost savings and a reduction in the total cost of the purchase.

Reducing Add-on Spending

Add-ons, such as extended service contracts, are costly and often don’t return their cost in future savings. Typically, buyers add $1,000 or more to their final price by purchasing these items.

The need for these items can largely be avoided by purchasing a reliable model, maintaining it according to the owner’s manual, and saving for unexpected costs. Any unspent savings remains with the buyer, rather than adding to the total cost of the purchase.

ABAI Methodology

The monthly ABAI was developed to enable buyers to easily view current new-car prices in the context of sound financial advice. The 20-4-10 auto financing rule consists of a minimum 20 percent down payment, a maximum 4-year loan term, and monthly payments of no more than 10 percent of gross household income. The rule is widely recommended by personal finance experts to maintain financial security, avoid excessive interest costs, and preserve future investment opportunities.

An affordable monthly payment (including principal and interest) was calculated by taking 10 percent of the U.S. monthly median household income, and subtracting a U.S. average monthly insurance premium. For an income of $53,385 and a monthly insurance premium of $130, the affordable monthly payment is $315.

An affordable price was then calculated using the affordable payment, along with a U.S. average 48-month auto loan interest rate, and a U.S. average sales tax rate. A 20 percent down payment was assumed. For a payment of $315, an interest rate of 4.05 percent, and a sales tax rate of 7.24 percent, the affordable price is $15,976.

The June 2014 ABAI was calculated by dividing the affordable price of $15,976 by the average transaction price of $30,342, and then multiplying by 100.

The affordable price result can be easily recreated by using AffordCheck℠:

Option: Check a quote, Yearly Income: $53,385, Local Sales Tax: 7.24%, Monthly Cost of Additional Cars: $0, Term: 48 months, Interest Rate: 4.05%, Bottom-Line Price: 15,976, Down Payment: $3195.13, Yearly Insurance Premium: $1560.

Returns a monthly payment of $315, and verifies a 20 percent down payment, 10 percent income, and corresponding Afford Score of 100.0.

Sources:

New Car Average Transaction Price

The Average Transaction Price reference used in the June 2014 index is $30,342. The price reference for June 2014 is an average of estimates by Cars.com and Truecar.

Press release links: Cars.com, Truecar

Press release links: Cars.com, Truecar

U. S. Median Household Income

The median household income used for the June 2014 index is $53,385. The median household income is published by Sentier Research, LLC on a monthly basis based on the Current Population Survey data. There is a one-month lag in publishing the data, so the latest available data for the June index is from the May 2014 Current Population Survey and was derived and published by Sentier Research, LLC on July 2, 2014.

U.S. Average 48-Month Auto Loan Interest Rate

The interest rate used in the June 2014 index is 4.05 percent. The interest rate is the national average 48-month interest rate for June 19, 2014 published by Bankrate.com based on a weekly survey of large banks and thrifts. Bankrate.com does not keep an archive of past 2014 rates. However, the Bankrate.com rates for June 19th can be found at Yahoo.com.

U. S. Average Insurance Premium

The insurance premium used in the calculation of the April 2014 index is $130 per month. The premium is based on state average insurance premiums published by Insure.com for 2014, and then weighted by state population to develop a national average. The state population estimates are from the Census Bureau’s Population Estimates Program, Annual Estimates of the Resident Population: April 1, 2010 to July 1, 2013, 2013 Population Estimates (ID PEPANNRES).

U. S Average Sales Tax Rate

The sales tax rate used in the calculation of the June 2014 index is 7.24 percent. This rate is based on state average combined sales tax rates published by the Tax Foundation for 2014, and then weighted by state population to develop a national average. Population numbers used were identical to those used for the insurance premium calculation.

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