If you have been reading other personal finance blogs recently or if ever, then you might have seen a few articles about buying a car. Heck, even I had a guest post yesterday about paying off your debt before buying a car. There are so many words of advice about purchasing a car that I wanted to throw my hat in the ring as well. The reason I want to do this is because I have a little different view point about purchasing a car. I don’t disagree with the other view points as I think they are valid, but I just have a little twist in how I see it. As stated time and time again, finance decisions like this are personal and you have to make the best financial decision based on you.
Pay Cash or Finance Your Car?
There are only two ways to buy a car, whether it is new or used. You can pay cash for it or you can finance it. There are many ways to finance a car, whether it be dealer financing, bank financing, or personal loans. No matter what way you split it, you still have to pay for the car. I don’t want to discuss different ways to finance your car, but I do want to discuss when you should think about paying cash or finance your next car. Let’s break it down, shall we?
Buying Your Car with Cash
Typically, you should always think about paying cash for your car. You can either pay the full amount with cash, or you can do a slit between cash and financing. The more cash you put down, the less you have to finance. The less you finance, the less you will pay in interest. It is just simple math. Cash will get you a car with no strings attached and you will not have to make monthly payments.
Most people pay cash for used cars because they are cheaper. This means you don’t have to save up as much, so you can get into a car quicker. Paying cash for a new car would be very difficult for most people. I don’t know that many people that have $20,000 in cash just sitting around.
Having said this, I do think there are times when cash might not be king. You might wonder where I plan on going with this and why a personal finance blogger might be advocating not using cash. Let me explain below.
When to Finance Your Car
If you are in debt, then I DON”T recommend financing a car. You are just adding more debt and you need to get your other debt paid off. You can find yourself very underwater if you keep adding debt on top of debt. Now, if you don’t have any debt (minus your mortgage), then there are times when financing might actually be a good idea. Have you seen the financing offers out there these days?
When I am watching TV on my over-the-air antenna, there are so many commercials right now for new cars. The reason for this is that dealers need to get their old inventory off the lot. When this happens, they are more willing to give you deals. What type of deals you ask, how about extra low interest rates.
0% APR for 60 months
0.9% APR for 60 months
Have you seen these offers on TV lately? Look at those deals. Now, these are only for new cars and you have to finance the car through the dealer, but why would you not finance a car at 0%? Remember that these deals are only good for those who have good credit. If you have bad credit, don’t finance a car. Save up for one and buy it with cash. You will always lose when you finance a car with bad credit.
Recommended: Check your credit score with Credit Sesame
Let’s say you have the cash to pay for a car, but you then get offered 0% to finance the car through the dealer. If it was me, I would go with the financing. Why, you ask? The dealer is giving me free money to finance through them. I can get into a brand new car and not pay a dime in interest for it. Yes, I have to pay a monthly payment each month, but now I have my cash to do whatever I want with.
I would take the cash for the car and then invest it. The average return on the stock market is around 8%. Would you rather pay cash for a car or be able to finance it with no interest and then have your money make money? I choose to make money.
There is another reason why I would choose to finance and that is when you need to keep your cash liquid. Not everyone can drop a lot of their cash on a car because it would leave them with nothing. No back up funds, no emergency funds, nothing. That is not a safe place to be in.
I have been offered used car loans from my credit union at only 1.49% APR. I would even take that financing offer over paying cash for the car. This is a very personal decision for me, but I would rather have the cash liquid or making money with investments. Do you think it is risky to invest the cash instead of paying for the car? I think it is, but you can gain anything if you don’t risk anything. Just remember that.
What Should You Do?
This is the question you probably want me to answer for you. Unfortunately, I can’t really do that because I don’t know your situation and how you are with money. What I can tell you is that you should think about the possibility of paying cash or financing. I would typically suggest paying cash for your next car, but in today’s economic environment, I would suggest financing for those with good credit. Lenders are giving out money at extremely low interest rates and that probably won’t last. If you can get a new car at 0% or a used car at less than 2%, then I think it can be a smart move. Yes, you are adding debt, but you are paying very little for it.
There are many other things that I can do with my cash instead of tying it up in purchasing a car outright. I like when my money is making me money. That has always been a dream of mine. If I pay cash for a car, then I don’t have access to that cash. If I finance at an extremely low rate, then I still have access to my cash and I can do what I want with it. I like when I have options.
Make sure you look over what you can do. Don’t just finance the car because you can. Do the math between paying cash and financing and then make your decision. I wanted to write this to show that it is not always cut and dry when purchasing a car. If you don’t ever want to add debt, then don’t finance a car and pay for it with cash. If you don’t want to put all of your available cash toward a car purchase and can get a great, low rate, then finance your car. There are options out there for everyone.
Image courtesy of blackstock / FreeDigitalPhotos.net
I think you should buy a good used car for cash every time. Both financing and purchasing brand new will cost you quite a bit, and most of us are in the middle class and simply can’t afford to lose that much on depreciation or on insurance. Cars are very expensive, I would do everything possible to keep these costs down so you can grow your wealth as efficiently as possible.
Financing cost your nothing if you get 0%. Great comment FMM.
I used to think the same thing, until I had a family of five and needed a bigger vehicle, which always cost more. I think if you are single or only have 1 child its easier to pay cash and drive a used vehicle that may need work from time to time. To pay for our next vehicle in cash, 20,000.. means we are left without a 911 fund. We have excellent credit and can get a great rate, and we do pay off our car loans early, then keep the car for as long as possible. I would rather keep my cash in case of 911, instead of having to sell the car at a loss to get my cash back if there is a true 911. Also, when you pay cash for a used car, and that car may not be in the top condition, you will have to spend more money on upkeep, unless you are very lucky. I say if you are rich, for sure by the car with cash, you would still have a lot of cash laying around in case of 911, but a middle class family might be better off financing at a super low rate for a newer car that will not need work every 6 months.
I certainly understand where you are coming from. I was able to get a super low rate on an auto loan, where it only made sense to finance it. I get to keep my cash liquid and do what I want with it while I am paying pennies to have the loan.
Don’t have kids if you can’t afford them. Simple.
Are you saying that if you can’t pay cash for a car and you have kids, then you can’t afford them?
Yes, I am saying that indeed. You should be able to find a reliable family minivan for $18,000, give or take. This is a very small sum of cash to consider when the average cost of raising a child to age 18 is $235,000, not even counting college.
If you couldn’t even save up so much as $18,000 over and above a rainy day fund when you didn’t have more than $10,000 of added expenses every year, how do you propose you will come up with that money?
Under 3% I would take the financing without thinking twice as I have a 3% savings account. Over 3% I think I would still take it and invest the money instead as I get better returns on investments. But since I bought a $3K car used I didn’t get access to financing and maybe the bigger saving is to buy a used car in the first place.
I am with you there Pauline.
Where are you getting 3% interest on a savings account? Please share because I need to move some money IMMEDIATELY.
Pauline has accounts overseas. She has access to better returns than we do. That being said, I have a local credit union account where I get close to that. I have to meet certain criteria, but it is easy to do.
Hmmm I understand your point about not financing if you are in debt, but at the same time with rock-bottom interest rate deals on cars I would think it makes more sense to finance your car and pay down your higher-interest debt with the money you would have spent on your car. That’s my take, at least.
I agree DC@Young Adult and I decided to finance because I needed to boost my credit rating since I sold my house. I could have paid cash for a slightly older car [3 years new] but needed something on my credit report since I do not have credit cards either.
If you don’t have recent credit history, you are considered a ‘ghost’ by the credit companies and it can effect your interest rate on loans. They get you coming and going.
Great point DC. I didn’t think about that.
Man, you’re kind of stealing my thunder a little bit. I’ve got a very similar post planned and agree with almost all of what you say here. We actually have this option right now and we’re deciding to pay cash rather than finance. For us, it comes down the the fact that the alternative use of the money is to keep it in a savings account for either our next car replacement (possibly soon) or for a down payment on a home. In that case, the returns won’t outweigh the interest, even at 0.9%. If our alternative was investing for the long term I would feel differently. We also have liquidity from other sources, so that’s not a concern for us. But I 100% agree with you that there are times where taking the financing can make a lot of sense.
Sorry Matt. Great minds think a like.
I’m with you here, Grayson, but you probably already know that since we have the same views about buying a new car too. If somebody’s going to borrow me free money for an item I want to buy, and I can justify the expense, I’m going to take it. I also agree with what you said though, about this not being a good idea for everyone. If somebody is irresponsible with money and might just take that 20k in cash and piddle it away on stupid stuff, they should definitely pay cash for the car. It’s a matter, I think, of analyzing yourself and your situation and then making the smartest decision given your particular circumstances.
You and I are usually on the same page Laurie. It happens!
I think you’re spot on Grayson. I would tend to agree that you shouldn’t be financing a car if you’re in debt. We financed our last car, after putting down a good chunk of cash, because we had a really good rate offered to us and it just made sense. We paid it off in about 3 years as opposed the 5 year term. Of course, I’d love to be able to pay cash as car payments can be such a suck on the budget, but I think it tends to depend on the situation at the time.
If you do a hybrid approach and put down some cash and finance the rest, then you could be better off.
While the interest rate was high and I hated having an extra bill, I really don’t regret financing my wife’s car. At the time, we were just coming off her bankruptcy and only had a few hundred dollars saved. We searched classified ads for a private sale, but none of the cars available looked like they would be reliable enough for her commute since we were forced to move to the other side of town from her job and walking was no longer an option (and public transportation simply didn’t connect the two areas). So we financed. We were able to get a used car for $500 cash and 72 bi-weekly payments.
That situation makes a lot of sense for financing Edward. I would have done the same thing.
I think there are two types of people: those who need to remember not to touch the cookie jar and those who just shouldn’t have cookies in the house. People who are bad with money (those who shouldn’t have cookies in the house) should avoid financing at all cost. If you’re good at paying your bills on time and not over-leveraging yourself, why the hell would you pass up 0% financing? Zero downside.
Great comment Joe. I certainly agree with you there and now I am going to get some cookies!
I just think combining the two could be great if you don’t have that much cash on hand. Though, every person’s situation is really different from one another. I do agree with you that paying more with cash can really save you a lot of money in the end.
I agree with you there Mark and will agree that every situation is different.
My Dad made a similar move when he was in college. He took out a loan to “pay for his education” but really just invested the money. The next year he paid it off in full and pocked the extra few hundred bucks he made. Not a bad idea.
Usually, I would want to just pay for a car in cash, but the next time I’ll be buying a car will be when I leave NYC. Moving expenses on top of purchasing a car will be tough, so I may have to look at my different options for financing a car.
What an idea. Good move on his part.
Good luck with however you buy your next car Erin.
Grayson, your logic is compelling. I’d add one suggestion.
If the dealer is offering a free financing deal, first tell the dealer you’ll be paying cash and stick with that line all through the negotiation process. Get the best deal you can–with the presumption in the dealer’s mind that you’re paying cash–and be sure you have an agreement with the dealer on price and all the fees, taxes, extra charges, etc. Then tell the salesperson you need to think about it overnight. Next day phone and tell the salesperson you’ve decided to take the deal, but you’ve changed your mind and want to take the free financing instead of paying cash. Then be absolutely sure you get exactly the same deal, all terms included, as you’d negotiated the prior day. And examine the financing documents closely to be sure the financing truly is free.
My overall point is that I’m skeptical there’s any such thing as free financing. In many cases, if you take the financing, I believe you’ll end up paying more out-of-pocket somehow, some way, vs. if you’d paid cash for the car.
Great suggestion Kurt and one that I have done before in the past. The dealers get hefty incentives to get people to finance their cars through the corporate bank. I got the same exact offer as I would with cash, but then the dealer actually lowered the cost when I financed. Why? He got an incentive from the dealer and wanted to make sure I didn’t walk. It is always a good deal to compare what you are getting. I have not paid any extra in fees and I got 0%. Skepticism is a good thing when working with a dealer.
Kurt, that is a brilliant suggestion! I am totally doing this on my next car purchase, which unfortunately will be pretty soon.
Let me know how it goes Kyle!
Many credit unions offer interest rates of less than 1 or 2%, and some times you can even get 0% through a car dealership. Financing might be a better choice! You need to make sure that you don’t add anything extra though, because when a dealership knows that they won’t be making any money from financing, they will try and squeeze a lot of little things in.
A credit union is certainly a great place to start to find financing. Many of the big brand dealerships are the ones that will give you 0% though.
Great question and post. Personally, I purchased my car with a loan. Looking back, I should have went the cash route. It makes no sense to take out a loan for an asset with diminishing value. Thanks again! I’d love to see you stop by CNA and share your thoughts on my decision to invest!
Why does it make no sense to pull out a loan on an asset with diminishing value in my example? If you can get a loan for 0%, then you aren’t paying anything and keeping your cash liquid. If you pay in cash, you no longer have that money. It is gone and you still paid the same amount as the person financing, yet they keep their cash asset. Both cars are the same and they diminish value in the same way.
Hi Grayson – interesting post. Let’s look at the value drop… the car you just financed at 0% is worth about 20% less the minute you drive it off the lot and loses 70% of its value in the first four years. Your invested cash is not likely to recoup the loss. And the percentage of people who actually qualify for the 0% financing is pretty small. One opinion I’ve heard which I follow to this day – never buy new (unless your net worth is over $1 million) and always pay cash. Why would I want to spend $20,000 on a car when I can get that same car only four years older for roughly $6,000. Case in point – I bought a 2003 Nissan Pathfinder in 2011 for $4,500 instead of the list price – close to $35,000 – runs like a top! Thanks for sharing your side.
Great comment Jean-Paul. Thank you for stopping by. I enjoyed your logic, but if you are buying a 4 year old car, there is a reason why it is less money. One, depreciation. Two, the condition of the vehicle. When you buy used, you have no idea what that car went through. You could buy certified, but make sure you get a warranty.
Also, if only people that had over $1 million bought new cars, you wouldn’t have used cars to buy. You can’t buy a used car unless someone buys a new car. Also, safety features change greatly in a few years, gas mileage goes up, engine technology increases. A lot of things happen, especially in the car industry in 4 years time.
As I said though, great comment and nice logic. I really liked your comment, but there are many more people that qualify for the 0% financing. Also stated, if you can’t get that financing, then you should buy used as I stated in the article.
I am a prime example of someone who should not finance a car haha. I’m 30 years old and have never owned a car before. Public transit has always been my enemy errrr I meant friend but once I convince J to sell his mustang for something more surburban 😉 then we would probably pay cash because we wouldn’t buy new. Great post Grayson!
You would never qualify for the low rate required for this post to make sense. Stay with used.
I paid cash for my car, but if there was an offer for 0% financing…I’d take it and save or invest the money (nothing risky of course). Why not take a free loan? When I’m offered 0% loans from credit card companies, I take that too…but only if there are no fees. These are rare as they generally have a 3% fee. I also have some student loans that are about 1.9%…I’m in no rush to pay them off…
I would do the same as you Andrew.
One tip about the 0% credit card offers. Sometimes if you call them up, they will waive the fee, especially if you plan on moving some good balance to them.
I would (and have) always bought second hand cars – I just can’t stand something being worth half of what I paid for it 10 minutes after I paid it.
You may say its wise to get 2% financing as its less than a savings rate. However, if you are paying 2% on a $20k loan, used for a new car which was worth that, but then worth $10k a month later, that debt seems a lot more expensive that first thought.
2% is definitely less than the savings rate. It is less than the return rate in the stock market. Those are two wildly different things.
Your logic only works if you plan on selling the car anytime soon. It is the exact same thing with real estate. Though real estate is usually supposed to increase in value, no one can no that for sure. Let’s say you pay $200k for a house at a 4.5% interest rate per year. If the market crashes or something causes your value to decrease to lets say $150k, then you just lost $50k, but still have to pay the 4.5% on the original loan amount.
If you are at 0%, then you don’t have to worry about owing interest. Yes, you still owe on the car, but who sells a car in the first year? If you are selling cars every 3-5 years, then why would you buy new?
Its a great question that we should be asking the millions of people worldwide who buy a new car every 3-5 years!
In 2012, the latest data compiled by global market intelligence firm R.L. Polk & Co has found that Americans are now holding onto their new vehicles for a record 71.4 months. That means the average is less than 6 years, which probably suggests (assuming a normal distribution) over 25% of people who buy new cars, sell in less than 5 years.
Anyway, to conclude, cash cash cash!
My general rule is to pay for assets (in the Rich Dad, Poor Dad sense of items which generate future net income) with debt (if they remain assets after the debt payment – e.g. real estate investment with a mortgage) in order to maximize the ROI.
Equally, I try to pay for all liabilities (items which generate a future net expense, including vehicles) with cash.
Awesome comment. Thank you for the data behind it. I guess I can say that all of those that are selling their cars within 5 years are keeping the used car market flowing. Without them, there wouldn’t be as many used cars.
I’m with Free Money Minute. I always pay cash for a 2-4 year old used car.
I’ve also been tens of thousands of dollars in debt (not counting my hundreds of thousands mortgage…) and learned the hard way if I can’t pay cash, I can’t afford it.
Investing the cash instead is an option. But I have separate money for that. Investments come out of my investment money. Expenses and depreciating assets like cars come from long term savings – cash to be spent.
I would finance the car even when I had the cash. I could do a lot more things with the cash then stick it in the car. This post is not just about financing a new car. I can finance a used car for 1.5%, so I would rather do other things with that cash. Investing it would be one of them.
I hear you.
There are definitely benefits to financing when the cost of capital is so low. However, I know myself well enough to know that I only have so much time and focus, so the more plates I have spinning, the more likely one of them is going to crash to the ground. So, I’d rather invest my attention on something other than one more loan.
That is all that matters. As long as you know yourself, then you know how to handle your cash and investments.
We financed a new pickup truck 13 years ago. It was 0% financing, and we paid the balance when that intro rate went away. All other vehicles have been paid for in cash.
Thanks for sharing Bryce!
Grayson, great post. I think you’ve hit on one of the great ironies of the auto finance industry: financing is really only the ideal option for people who don’t need to do it. I am in the market for a new car, and like you with your Jeep, I am thinking about financing it because I can get a low rate and I’d rather have my cash available for other uses. To me, the amount I’ll pay in interest is worth having those funds to invest in other things.
Great comment Taylor. You are correct on this one.
In the uk the cheapest rate on finance is 4.5%. I am looking at buying a £25k car and have cash to pay in full. However in thinking that even at 4.5% it’s better to pay say £15k cash and finance the rest over a 3 year term.
Is this wise at 4.5% as well?? I have no other debt apart from small mortgage and my credit is A1.
What are you going to do with the other 10k? If you finance the rest of the car, then I would assume you have plans for the 10k or do you just want a safety net?
Just want safety net. I’ll just keep it in bank or invest it somewhere. I’d rather pay 4.5% I think rather than hand over £25k. I get car allowance from work which would cover finance payments over 3 years.
Good analysis, I don’t really agree with some of the comments of this article. It will all come down to the interest rate, by the way. But as a person who doesn’t like debt, I’d pay part of the car in cash so I can free myself from debt management and focus myself on growing my business.
Another reason is everyone knows that the more time you have to pay a loan back, the lower the payment will be per month. However, interest payments can end up over the years when the loan is stretched out for a long time. In some cases you could end up paying thousands of dollars in interest by the time your loan has finally been paid off.
I bought a 1 year old car for cash at a local dealer. It was quite a process, but in the end you win. When you finance a car, you end up paying more in the long run because of the interest. Debt is dumb cash is king!! Let me tell you about the experience. First of all, you can pay cash for a car. Like anything you have to allocate some funds in your budget for your next vehicle purchase. In my case, it took 12 years.
Don’t tell the dealer you’re paying cash. Stay neutral. When the negotiations are over and you reached a deal, then pull out the check book. 3 hours later I drove the car home. The reason it took so long was because the dealer needed to verify the funds with the bank. It was an interesting day. Don’t Lease – you end up paying more out of pocket after the term is up. And I don’t care about the stupid tax write off. Leasing is a dealer’s way of getting you to buy a car that you cannot afford.
Congrats on buying your car in cash. I agree that you shouldn’t tell the dealer that you are going to pay in cash. Haggle and negotiate, then pull out the checkbook.
I disagree with the cash is king, debt is dumb phrase. Right now you can get super low interest rates. My wife just got one below 2%. Yes, you pay a little extra, but she now has cash liquidity and she can make way more with her investments. I have done the same experiment where I was able to get below 1%. I did the experiment and make money in the end. I think you should only finance when you can get the lowest interest rates, such when your credit score is high. This simple tactic is called arbitrage and is done by banks, so I don’t see anything wrong with it.
They have the 0.90% option here on a new car that I am thinking of purchasing, but the way they get their money thru their low rate is by adding on to the final purchase price. By paying cash I can get the car $2000 cheaper which they refer to as a cash incentive. So I guess in reality the $2000 is actually extra interest you are paying to finance the car.
That is why you never tell them you want to finance. Go through the process, then say you want to finance and if they add on the extra expense, then walk away. You have to negotiate up front and not let them dictate the conversation.
Wow what a great thread! I see all points with a fresh perspective.. The investing sounds good, as long as you dont mind the montly payments and they have to come out of your cash flow each month – thats where i tank. we are saving to pay cash – however, what if you laddered your investments, say in GIC’s for 5 years.. the first year, you use your car cash from a savings account to make your payments, then the 2nd year, your money would have been in a GIC for a year and maturing…. if you laddered the remaining 4 years in GIC investments, you wouldnt get a huge return but at least it would be something. I just hate the whole car payment thing when id rather invest that money each month. Guess its kinda the same thing in the end.
Stumbled across this blog as I was searching the topic. Great article and discussion! My question goes back to Bella’s – when I go to the dealerships here, they typically just ask you upfront how you’re going to pay. In some cases, I’ve just told them that I haven’t decided yet, in which case they already state, “If you pay cash, it’ll be $3k less”. So it kind of deflates any type of negotiation tactics/discussions that I’ve been playing in my head lol. Another scenario is that even if they don’t ask you that upfront, after all that negotiation, at the end, they still just tell you “Ok, it’s $2k less if you pay cash”. What are your thoughts on this situation? I guess it would just make sense to pay in cash (~$20k car) since I’m not sure if I’m going to get that much of a return on my $20k cash. What do y’all think?
It really depends on the incentives at the dealership. If they offer financing and the manufacturer is offering incentives, they will sometimes give you a better deal to finance. I just don’t talk about money until I’m ready. You don’t have to answer the question if you’re not ready to talk numbers.
With regards to getting a return, if you can hold $20K in an investment account, you can get your money back. Yes, the value will go up and down, but the S&P 500 averages nearly 9% per year. That’s much more than the 2% you would pay on a car loan (if you have good credit).
My stockbroker is telling me to finance …I have to buy a used car because my car just died…I plan to spend around 12,000 …I have approximately $150k in stock market…The problem is, my credit score is 480. I will NOT get a low interest rate!
My investments are with Scott & Stringfellow, which is affiliated (?) with BB&T…He says maybe they could use my securities as collaterol. Please help! I’d really rather not have a monthly payment, as I don’t make that much. (I inherited these stocks.) I own 2 houses outright and have no debt…
If you don’t have debt, then don’t finance. That’s a terrible idea and getting a loan with a 480 credit score is almost impossible. Even with collateral, I wouldn’t do it. That’s too risky. Pay in cash and get a car that is cheaper than $12,000.
What a lot of people don’t realize is that you are paying a premium on the price of the car to get < 2% financing…
The dealerships will get their $ one way or another. Pay cash always.
I would say that is true in some cases, but not all. Dealers get incentives to do financing from the major banks/car companies. I’ve actually gotten a better deal based on financing than I did with cash. Why? The dealer was going to get an incentive from the car company. Yes, they still get their money, but the financing got me a much better deal. How do I know? I went in two different times spread apart talking to two different salespeople. It worked well and I saved a couple thousand dollars off the price by going with financing.
Two of my investing mentors—Dave Ramsey and Robert Kiyosaki–are a complete 180 out from one another on their viewpoints of debt. As most know, Dave Ramsey take on a biblical approach to debt and views it as completely toxic–hence his catch phrase, “the borrower is slave to the lender.” Kiyosaki’s viewpoint is that good debt while utilizing other people money (OPM) can make you extremely wealthy if you have financial intelligence and a strong financial IQ.
Notwithstanding the aforementioned differences between these financial experts, they consequently agree on one key element to personal finance: get out of bad debt. What is bad debt? A car loan, credit card debt, student loans, etc. Therefore, if two leading financial gurus–on the opposite end of the “debt tolerance” spectrum–agree that a car loan is an ignorant decision or someone lacking a financial education, why on earth would you take on a car loan (and lose 10-15 percent guaranteed every year in depreciation)? Does not sound like a wise investment.
Bottom line: If you are going to borrow money, use it to purchase ASSETS; not LIABILITIES. A car is a liability…it does not put money in your pocket.