I hate car loans. I’ve only had one in my life. My first two cars were purchased with cash. They were crappy, cheap cars, both of which I loved. My third car was a new 2002 Kia Spectra. I still own this car and I plan to drive it until it dies. I don’t think I’ll ever buy another new car because I hate having a car loan. I’m currently saving for my next “new-to-me” car.
Most people think I’m crazy when I talk about saving for a car. Car loans and leases are part of everyday life. Well, they don’t have to be. Being an accountant, I decided to run the numbers. It’s pretty amazing.
When you get a car loan, two things happen: you are paying interest to the loan holder and you are losing the interest income you could have gotten by putting the money into your bank account each month instead of forking it over to your loan company. These two forces are costing you a lot of money if you have a car loan.
I went to BankRate yesterday to check out loan rates. The average rate for a 5-year new car loan is 7.49%. Therefore, if you take out a $10,000 car loan, the monthly payment would be $200.33 a month and you would pay $2,019.92 in interest. Now, let’s take this one step further. What if you took the $200.33 a month a put it into a savings account at 1.5% (which is what my ING account is paying right now) for five years to save up the $10,000? Well, it wouldn’t take you five years. It would take you a little over four years to save up the money. If you put the money in for a full five years, you’d have $2,473.24 left over in your savings account. Not bad, right? Wait, it gets better.
What would happen if you kept putting $200.33 in savings each month, say for the next 40 years? Well, if you withdraw $10,000 every 5 years to purchase another car (hopefully you last a bit longer than that), in 40 years you would have purchased 8 cars for the same monthly payment you would have sent to the loan company. How much do you think would be left in the savings account at 1.5% interest?
$26,109.26. That’s right. Over $25,000. Remember, also, that we have the lowest savings interest rates this country has ever seen. What happens when interest rates go back to 4%? In 40 years, after purchasing 8 cars, you would still have $58,504.86!
Are you convinced that car loans just make you poor and self financing your car purchases can make you rich? Let’s look at one more scenario. What if you usually purchase $20,000 cars? Your monthly payment would be approximately $400.66, costing you $4,039.84 in interest. If you saved the money instead and purchased the car after you had saved for it, you would have $52,218.53 at the end of 40 years, even after you purchased 8 cars (one every 5 years), assuming 1.5% interest rate on the savings account. Raise that interest rate to 4%, and you’ll have saved $117,009.71. That’s a nice chunk of retirement savings right? I’d rather have the $117 grand than have a car loan. I can be patient. I can wait a bit longer to get another car. What do you think?