With car buyers getting approved for historically low-interest rate loans and auto dealers offering extremely attractive purchase incentives, a shiny new set of wheels may look awfully tempting these days. However, just because a buyer is able to get a “great deal” on something does not make it a purchase everyone should be making.
- Depreciation: Automobiles lose most of their value in the first 5 years. First-time buyers are the ones who take the hit.
- You don’t actually own the car.
- The warranty will likely run out before your loan payment is complete.
- Your decision to “buy new” is emotional. Marketing techniques and worthless free giveaways are persuading you.
Let’s first address the word that dealers never want buyers to consider, depreciation. Automobiles are one of the fastest depreciating assets a consumer can purchase (“butter” in our model). On average, a brand-spanking-new car will lose 22% of its value within the first year and 55% of its value over the first 5 years. So that $35,000 sedan you just paid for (plus taxes and fees) is now worth $15,750 on a good day.
To make things worse, the monthly payment for the car loan was determined by using the car’s full value,. This means that the buyer continues to pay the same amount each month for an asset that continuously becomes less valuable. That’s the equivalent of taking a handful of hundred-dollar bills and politely flushing them down the toilet every single month for the next few years.
What most people don’t realize is that this course of events actually handicaps them from being able to make sound financial decisions in the future — a domino effect, in other words.
In this scenario, since the buyer has already committed themselves to paying a lofty monthly car loan payment on a vehicle that is now worth so much less than what they originally paid, the car owner isn’t left with many good options when it comes time for a new car (and yes, at some point you will need a new car). So what does the car owner do? Heads over to the dealership to trade in their vehicle for less than it’s actually worth and refinances their car note to get something even bigger and better this time.
The average trade-in mark for passenger vehicles is just under 6 years—conveniently about the same length of time it takes for the vehicle to lose most of its value in depreciation. Consumers seem to just love debt, which brings me to my next point.
YOU DON’T ACTUALLY OWN THE CAR:
Although the car sits in your driveway and you send in the monthly payment a… until you’ve satisfied that loan payment with the bank, you technically don’t “own” anything.
If for some reason you are unable to satisfy the loan, the bank or dealership will take back the car without consent using the same methods that car thieves use and they are legally allowed to put it up for resale on a used car lot immediately afterward. In some cases, the buyer is STILL liable to pay off the balance of the car loan even though it’s a car they no longer have.
Subprime auto loans (auto loans given to unqualified borrowers who are considered high-risk for default) are climbing at a rapid rate and make up approximately 1/3rd of all car loans in the country. Additionally, loan duration has dramatically risen as well. In the 1990’s, a typical auto loan was 48 months but due to climbing car prices and stagnating incomes, buyers are now asking for longer loan terms to reduce monthly payments, which has brought the average term on an auto loan to an all-time high of approximately 69 months.
BUYING A NEW CAR MIGHT NOT SAVE YOU HEADACHES:
Most people are compelled to buy a brand new car because it avoids headaches and alleviates the uncertainty of the history of a used car. Plus, new cars come with a factory warranty that is supposed to have buyers covered forbid something goes awry.
Here’s the catch…
The average warranty on a new car is 3 years (36 months). As we learned above, the average car loan length is around 5 years (69 months). This means that if something goes wrong on the 37th month, it’s the car owner’s full responsibility to cover the cost out of pocket- still with 2 years of monthly payments left to go. That doesn’t seem fair, does it?
YOUR DECISION IS EMOTIONAL, NOT PRAGMATIC:
Think back to the last few car advertisements you’ve seen. They almost all try to entice you by promising an amazing driving experience, some new feature you need to have or they sweeten the deal by offering you some worthless crap such as a cash-back offer.
Let’s acknowledge a couple quick facts to put this in perspective.
- Navigating your traditional roadways and sitting in standard traffic won’t provide enough of a unique driving experience that warrants financially straining yourself with a lofty car payment. So unless you’re frequently taking that new jeep off-roading or driving that sports car on the autobahn as your morning commute, stop and think about whether or not this purchase is completely necessary.
- Technology is advancing so fast that even new features quickly become obsolete. Also, think about all the features present in your current model and ask yourself how many of them you frequently rely upon.
- Carmakers and dealerships are in the business of making money. Any cash-back deal they offer you is already accounted for in the price of the car or is hidden in “optional extras” that are somehow now mandatory.
A car’s value depreciates fast so let the first buyer be the one who incurs that cost. Doing so should help you get the best value out of your purchase as well as potentially free yourself from a lengthy overpriced car loan payment. Car shoppers should be wary of crafty sales and marketing tactics and should instead focus on what’s important, such as owning a vehicle outright and making the optimal long-term financial decision.
What are your thoughts on buying new versus used?