What's the Right Down Payment on a Car Loan or Lease?

The American automotive market depends on financing to make vehicles affordable to buyers. Few households have the cash to fork over tens of thousands of dollars at once to purchase a new or late-model used car.

For this reason, automakers, banks and credit unions provide other options, such as car loans and leases, to get vehicles into the hands of drivers who can then pay over time. A key part of a good lease or financing deal is the down payment or, in the case of a lease, money due at signing. Determining the right amount of cash to pay upon closing the sale can help buyers get a deal that will work both in the short-term and over the course of the loan or lease.

Down Payment Benefits

Seen from the bank or financing company's perspective, money down has specific functions. First, it provides the financing company with some cash from the start. That means that, even if the borrower defaults early, the lender has collected some portion of the loan before the borrower even sends the first payment. For new cars, this amount can offset the immediate depreciation that occurs upon delivery. Money down also shows the lender that the borrower has the financial wherewithal to accumulate that cash.

The buyer may see cash down serving different functions, like lowering the payment or interest rate, or shortening the term. The more money a buyer pays upon closing the transaction, the lower the financed amount. That means higher down payments can drive lenders to provide a lower interest rate. Or, it may allow a buyer to reduce the amount of monthly payments or keep payments the same while reducing the term of the loan. These factors affect both new- and used-car loans.

How Much?

For new-car leases, the required initial payment, or cash due at signing, is typically predetermined. Instead of following the loan strategy and paying as much down as possible, lease customers should stick to the required cash due. The purpose of a lease is to minimize the lessee's cash out. Paying more at signing is counter to that purpose.

For a used-car loan, you generally want to put down 10 percent or more of the vehicle's sale price. This means buyers who want to finance the purchase of a $15,000 used vehicle should plan to put at least $1,500 down. Lenders may require more money down on a new car than a used car to offset its quicker depreciation. Typically, an initial payment of 20 percent or more of the purchase price is wise. This works out to $6,000 down on a $30,000 vehicle, resulting in a financed amount of $24,000.

More than Cash

Buyers don't necessarily need all the money in cash. Two other common ways to bolster the down payment are with a trade-in vehicle or with a cash rebate on the vehicle's purchase. If a dealer takes a vehicle on trade, the value that the vehicle's owner and the dealer agree upon is deducted directly from the purchase price of the vehicle. That's true for new- and used-car loans as well as new-car leases. Dealers and automakers sometimes offer rebates on new vehicles, too. In that case, the rebate amount is also subtracted from the purchase price.

For new-car leases, any rebate goes to the lender, not the lessee; it doesn't serve as cash due at signing. Still, a rebate for buyers can be a good indication of attractive lease deals. A leasing company will already have the rebate built into their lease deals, effectively lowering the price it pays for a vehicle. They may pass the savings on to the buyer in one of two ways: less cash due at signing or lower monthly payments. This explains why shoppers sometimes see offers of either a rebate for buyers or a no-money-down lease on a model that an automaker is anxious to sell.

Financing a new or used car with an auto loan is a wise way to get safe and reliable transportation without having to squirrel away money for years in preparation. Just be sure to have about 20 percent of the purchase price -- including any trade or rebate -- to get the best deal. Leases are not recommended for used vehicles but are great for new cars. They typically require less cash down and lower monthly payments than a loan for the same vehicle. The downside, of course, is no ownership of the vehicle at the end of the term.

What it means to you: Do the math before arriving at a new- or used-car dealership to shop. Know the purchase price, the value of any rebates or trades, and how much cash you have to put down. You can then ask for a quote on a lease or loan, or seek financing from an outside institution.