The ultimate rule for buying a car with the 20/4/10 rule

Arjun is a 32-year-old software developer living in Pune. He decides to upgrade his old hatchback to a sleek, fuel-efficient sedan to avoid the financial stress he faced with his previous car loan, which was a burden due to poor planning. This time, Arjun is determined to make a smarter choice. He then learns about the 20/4/10 rule, a practical and effective rule for buying a car that helps people make smarter purchasing decisions.

Let’s break down the 20/4/10 rule on how to buy a car for Arjun as well as you. Discover the benefits when you apply it for your next car purchase.

What is the 20/4/10 rule for buying a car?

The 20/4/10 rule is a simple and effective rule for buying a car that helps you purchase your car without compromising your financial stability.

Here’s what it says –

1. 20% Down payment

When buying a car, you should put down at least 20% of the purchase price upfront. This will reduce the loan amount, lower monthly payments, and minimise long-term interest expenses.

2. 4-Year loan term

Finance the car for no more than four years. Shorter loan terms ensure you pay off the vehicle faster and reduce the risk of being upside-down on your loan.

3. 10% Income cap

Keep your monthly car-related expenses, including equated monthly instalments (EMIs) on loan payments, insurance, and maintenance, within 10% of your gross monthly income. This prevents car payments from overpowering your budget.

Let’s revisit Arjun. He earns ₹1,00,000 per month. Using the 20/4/10 rule, Arjun should –

1. Save at least ₹2,00,000 for a down payment (20% of the car’s price)
2. Opt for a loan tenure of four years or less
3. Ensure total car expenses don’t exceed ₹10,000 per month

What will the potential cost be if he doesn’t follow this rule when buying a car? Let’s assume Arjun doesn’t know about the 20/4/10 rule and purchases a ₹20 lakh car with no down payment. Opting for a seven-year loan term, his monthly EMI is ₹30,000—30% of his monthly income. After three years, he decides to sell the car, only to realise its resale value is ₹12 lakh while he still owes ₹15 lakh. This is the downside of overextending financially and choosing an extended loan term.

Contrast this with a scenario where Arjun follows the rule for buying a car. He buys a ₹10 lakh car with a ₹2 lakh down payment and a four-year loan, keeping his EMI within ₹8,000. He can sell the car after three years without facing financial losses.

Arjun’s takeaway? He opted for a reliable sedan with low maintenance costs and high resale value. Thanks to the 20/4/10 rule, he avoided buying a car that would’ve drained his finances in the long run. When you follow this rule for buying a car, you’re not just buying a car; you’re making a financial decision that aligns with long-term stability and well-being.

Why the 20/4/10 rule works
 

The 20/4/10 rule for buying a car, sometimes known as the 20/10/4 rule, is a strategy for maintaining financial stability. Here’s how it helps –

1. Prevents debt accumulation

Large loans and extended repayment periods can trap buyers in cycles of debt. By capping the loan tenure at four years, the rule minimises interest costs and ensures you don’t owe more than the car’s depreciated value.

2. Helps avoid depreciation woes

Cars lose value over time. Limiting the loan term reduces the likelihood of owing more than the car is worth as it depreciates—a common issue with extended loans.

3. Promotes smart spending

Limiting monthly car expenses to 10% of your income ensures you have enough left for essentials like housing, groceries, and savings. This approach encourages a balanced budget and protects you from living paycheck to paycheck.

4. Encourages long-term savings

Following the 20% down payment rule instils a habit of saving. When you put money aside for the down payment, you avoid high loan amounts and reduce financial stress. Moreover, you retain flexibility for other financial goals, such as emergency funds or retirement savings.

Importance of research before buying a car
 

Buying a car involves more than just the purchase price. Thorough research helps avoid unexpected costs. Apart from following the car loan rules, here’s what you need to consider –

1. Total cost of ownership (TCO)

The TCO includes –

a. Fuel costs – Research the car’s mileage and fuel efficiency.

b. Insurance – Premiums vary based on the car’s value and type.

c. Maintenance – Consider repair costs, especially for luxury or imported cars.

2. Hidden fees

Many buyers overlook additional charges, such as registration, road tax, and dealership fees, which can add up to 10% or more of the car’s cost.

3. Depreciation

Cars lose value over time, with most depreciating 20-30% in the first year. To minimise depreciation losses, research models with high resale value.

4. Resale value

Some cars retain their value better than others. Choose a model with a strong resale value to minimise long-term depreciation losses.

5. Timing for purchase

Knowing when to buy a car can also save you money.

Tips on when to buy a car
 

Knowing when to buy a car can save you money and stress. Here are some tips –

1. End of the month/quarter, when dealerships often offer discounts and promotions to meet sales targets during these periods
2. Festive seasons like Diwali and Navratri are popular times for discounts and freebies on car purchases. Research offers in advance to find the best deals
3. Model year-end since the previous model year can result in substantial savings as dealerships clear inventory. Watch for such opportunities if you’re flexible about the latest features

Building a down payment fund
 

A significant down payment can make all the difference when following the 20/4/10 rule. Here’s how you can save effectively with this rule for buying a car –

1. Set a target

If you’re eyeing a ₹10 lakh car, your goal should be to save ₹2 lakh (20%). Break this amount into monthly savings targets and stick to the plan. This disciplined approach ensures you accumulate the required funds without financial strain.

2. Automate your savings

Set up automatic transfers to your savings account to ensure consistent contributions. For instance, Arjun automated a ₹20,000 transfer to his savings account every month, reaching his target in just 10 months. Over time, the habit of saving becomes second nature, benefiting not only your car purchase but also other financial goals.

3. Supplement savings with windfalls

Unexpected bonuses, tax refunds, or gifts can speed up your savings journey. You can utilise a year-end bonus to cover part of your car insurance and registration fees to make the purchase smoother.

4. Utilise a high-interest savings account

A savings account with a high rate of savings interest can help you build your down payment.

For example, the IDFC FIRST Bank Savings Account, which offers one of the highest interest rates on savings accounts, up to 7.25% per annum, can accelerate your journey toward purchasing a car. The bank also provides the following benefits in the savings account –

a. Monthly interest credits

The interest is credited to your account monthly. It enhances the compounding effect and accelerates your savings growth.

b. Zero-fee banking

With no hidden charges, more of your money stays in your account. It ultimately contributes to your goal of saving for your car.

c. Digital banking services

Online and mobile banking platforms allow you to manage your account effortlessly, monitor and control your savings, and more.

A smarter way to buy your next car
 

The 20/4/10 rule is effective for buying a car that ensures financial stability while helping you achieve your dream of car ownership. By following these guidelines, you’ll avoid the pitfalls of excessive debt, high monthly payments, and financial stress.

Ready to start your car savings journey? Open an IDFC FIRST Bank Savings Account today and enjoy the benefits of competitive interest rates, zero-fee banking, and monthly interest credits. Take control of your finances and turn your car-buying dreams into reality!