New-Car Affordability Dipped in November as Prices Outpaced Incomes
December 14, 2016
The November 2016 Auto Buyer’s Affordability Index (ABAI) is 58.9—down from 59.1 in October. The affordable price increased by $162 (0.9 percent) to $18,535, but was outpaced by a $397 (1.3 percent) increase in the light-vehicle average transaction price (ATP). An ABAI of 58.9 indicates that a prudent, median-income household can only afford 58.9 percent of the new-car average price.
The index has stalled at around 59 this year after rising rapidly in 2015. This is primarily due to a slowdown in median household income (MHI) growth—up only $1,108 since January. By comparison, the MHI rose $2,329 over the same period last year. Fortunately for car buyers, new-vehicle price increases continue to be moderated by on-going market pressures.
Buying power (affordable price change minus the ATP change) decreased $235 in November, further eroding gains of the last two years. Median-income car buyers have lost $490 of buying power since June. However, they still retain $2,032 of the buying power accumulated since January 2015. (See figure below.)
Americans Say New Vehicles are Unaffordable
New-vehicle sales are up by only 0.1 percent, year-over-year, through November. This lack of sales growth comes after five years of growth in excess of five percent. More troubling, sales have plateaued in an environment of very favorable financing conditions—interest rates are at record lows, and monthly payments, loan amounts, and loan duration are at record highs. Accordingly, the industry has begun to recognize that new-vehicle affordability is an issue.
Americans agree. Requisite Press surveyed 1001 U.S. consumers from December 6th through the 10th and found that 74.6 percent say that new cars and trucks are generally unaffordable (margin of error: +2.6%/-2.8%). Additional survey information can be found at Requisite Press Affordability Survey.
It’s unclear at this time when and how the industry will address the new-vehicle affordability issue. Automakers are likely to find any reduction in pricing to be particularly challenging since they often seek a competitive advantage by promoting costly technology (e.g., autonomous safety and navigation features, in-car entertainment enhancements). Additionally, Government regulations, such as fuel efficiency standards, continue to drive up vehicle cost.
Four Money-Saving Tips for Car Buyers
Regardless of the overall state of affordability, individual car buyers can actively improve the affordability of a new-vehicle purchase. Requisite Press recommends four key actions that are likely to reduce the total cost of a purchase: Obtain preapproved financing, sell a trade-in separately, avoid costly add-ons, and obtain a market price. In aggregate, these actions can save consumers thousands of dollars and significantly improve the affordability of a new-vehicle purchase.
- Obtain preapproved financing. With new-vehicle transaction prices at record highs, financing costs add thousands of dollars to the total cost of a purchase—even with historically low interest rates. A poor financing offer can significantly increase this cost. For example, the cost of interest on a $32,000 vehicle, financed over 68 months at 2.9 percent is $2,740. The cost increases by nearly $1,000 to $3,718 at 3.9 percent. Car dealers, with access to a range of financing sources and discretion in setting retail profit amounts, may be able to offer the best financing deal. However, car buyers are more likely to receive a dealer’s best offer if they have a competing offer—such as a preapproved loan from the buyer’s bank or credit union.
- Sell a trade-in separately. Combining a new-vehicle purchase with a trade-in could turn out to be costly for a car buyer. In a combined transaction, a seemingly great price quote could be offset by a poor trade-in offer. Separating the new-vehicle and trade-in transactions—both in time and place—ensures that a new-vehicle price quote can be properly evaluated against competing sources. It also may lead to a better trade-in offer. A car buyer is likely to come out ahead by taking this action, even if she resides in a state that taxes the reduced value of a combined transaction.
- Avoid costly add-ons. Add-ons such as a vehicle service contract (also called extended warranty) can add $1,000 or more to the cost of a new-vehicle purchase. However, add-ons rarely make financial sense. For example, a Consumer Reports study of vehicle service contract purchasers found that more than half of those surveyed never used the coverage. Additionally, the median out-of-pocket savings was equal to zero (all respondents). Car buyers are better served by using savings to pay for planned and unplanned maintenance.
- Obtain a market price. The vast majority of new cars and trucks are produced in large quantities and are widely available. They are, essentially, commodities. Car buyers, dealing directly with multiple dealers, can take steps to ensure robust competition and thereby obtain the best available price—the market price. The market price is likely to be lower than a dealer’s internet price or a “fair” price offered by third-party car buying services. The most efficient way to obtain the market price through negotiation-free car buying: First prepare for an immediate purchase, and then directly request nonnegotiable price quotes from multiple car dealers.
Details of these money-saving tips, and much more, is included in a newly release e-book titled The 15-Minute Guide to Negotiation-Free New Car Buying: Simple Save More and Stress Less. The e-book is available for preview and purchase at https://carswithease.com.
20-4-10 Auto Financing Rule
The ABAI is based on the 20-4-10 auto financing rule. The 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 (including insurance). The rule is widely recommended by personal finance experts to maintain financial security, avoid excessive interest costs, and preserve future investment opportunities.
The affordable monthly payment (including principal and interest) is calculated by taking 10 percent of the U.S. monthly median household income and subtracting a U.S. average monthly insurance premium. The affordable price is 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 is assumed. The ABAI is calculated by dividing the affordable price by the average transaction price and then multiplying by 100.