What should be the budget for my first car?

We recently did a Let’s Get Rich With Pattu podcast episode on buying cars, and one of the questions was, “What should be the budget for my first car?” A discussion.

My answer was: Whether you buy with cash or via EMI, ensure the car cost does not exceed your annual income.  Admittedly, I am the last person you should ask about cars, but this thumb rule seemed reasonably accommodative of those who aspire for a “good car” if not a “dream car”. Let us leave out luxury cars here.

We had a car dealer as a guest on that episode, and he said, “If everyone took this thumb rule seriously, then car sales in India would drop by 50%”! I was shocked to learn this.

Shocked because it is so imprudent. Consider a person making Rs. 1 lakh a month (gross, pre-tax). If she aspires to buy a Rs. 12 lakh car ( = annual gross income) with a 9% car loan for five years, the EMI would already be almost 25% of her monthly gross pay. At seven years, it would be about 19%. If she wants a more expensive car, the EMI would breach 30%.

30% EMI, 30% Expenses, 30% savings + investments, and 10% for emergencies is the “ideal” mix we usually recommend for those servicing (usually home) loans. If a car loan by itself breaches this 30% mark, it is the only loan that can be serviced.

So, where is the imprudence? After earning, we buy gadgets on EMI – TV, mobiles, etc. Then we buy a car on EMI and then a house on EMI. Then we spend time and money trying to pre-pay these. A good 10-20 years after we start earning in paying out these EMIs.

Precious time is lost forever in investing for retirement and other long term goals. Unless our income increases significantly in future, we cannot make up for this lost time. So we might want to go easy on our automobile aspirations*, set up an investing schedule and work out EMIs around that (never compromising on the investing).

* I am not saying, ‘Don’t buy a car’. I am only saying buy a less expensive car or delay the purchase until your income is a bit higher.

Thankfully, many Facebook group Asan Ideas for Wealth (AIFW) members felt that the budget for a first car should be significantly lower than one’s annual income. This either meant they preferred buying a less expensive car first or waiting until their income was higher.

However, group members are typically interested in personal finance, so their responses may not be representative. Assuming the median reality is between what the car dealer said and what AIFW members felt, many first-time car buyers are probably taking on more than they can chew regarding EMI.

If possible, buy a reasonably priced car (relative to your annual income, not exceeding it) with cash by saving up for it for a few years. If you must use a loan, ensure you do not stop your investments for the long term.

If you need help in deciding your car purchase, you can consult these fantastic articles by car enthusiast Ragesh:

• Buying a car? Here is how you can optimize the purchase!
• Used Car vs New Car: Which is a better buy?