Cars - Pay Cash or Finance & Invest?

[Colin Smith]

My wife has finally ran her 1999 Volvo into the ground with the transmission going out and it would cost more to fix it than the car is worth at this point in time. 

Let's be clear that we are looking to buy a 3+ year old USED vehicle, looking to spend about $10,000. New vehicles are not part of this discussion as we have no interest in losing ~38% of the cars value in 3 years due to depreciation.

With auto loans being so low for used vehicles (~3%), it makes it hard to pass up, however, there is something to be said for owning your vehicles free and clear, as we do now. 

The questions is, would you pay cash and own your car free and clear, or would you finance the vehicle and invest the cash into RE?

[Byron Bohlsen]

If  the volvo isnt a time bomb just fix the transmission regardless the resale value.  cheapest option period. 

[Steve Vaughan]

Dear newer people:  As a general rule, cars eat wealth. Car payments take away choices and freedom.   None of my renters and their fancy car payments are going anywhere soon.  I see my parking lots full of Mustangs, Escalades, Chargers and sigh.  Happy they'll be renters for years,  sad they won't sacrifice a little bit and better themselves.   

I have the oldest, squeakiest car of any of them, a 20-yr old minivan that runs. I am also the owner that collects the rent and is building true wealth.  I am the opposite of our learned and successful friends on this thread. Haven't had a car payment since 1996. My 'car payment' has purchased a couple dozen cash-flowing income properties for me since I've gone wheel debt free. 

 For most, leasing is the most expensive way to operate a vehicle.   It works tax-wise for like 1% of folks that do it.   We are not @Will Barnard or @Jay Hinrichs or @Mark Ferguson. They have earned this right and can afford it.   We are simply trying to grow wealth and get out of the rat race.  

Stay away from car payments!  Cheers and happy holidays!  

[Colin Smith]

@Byron Bohlsen

Would you really recommend putting about $3,000 into a Volvo (that is to fix all the other major problems plus the transmission) into a vehicle with a resale value of $1,500 and 160k miles.

[Hunter Hughes]

Ah, many factors at work here.

If you would feel more comfortablly refinancing, your credit should obviously have an impact on your decision. Will you get a great interest rate? will having a car loan help or hurt your home buying potential? but remember, always pay your bills on time (just one more thing to have to worry about)

Personally, I would recomend looking for a car deal in the same way you should be looking for a property deal. don't just look for a good deal, go for THE incredible deal. For example, my wife and I just bought a 1999 Volvo C70 with 27,000 miles for $2,700. We put another $2,000 in for repairs and we are running beautifullly. thats $5,300 less than what you are looking at and it still gets from point A to point wherever. Seriously consider a cheeper vehicle option if you want to invest more money into cash flow generating property.

Just a thought.

Hunter Hughes

[Byron Bohlsen]

Originally posted by @Colin Smith:

@Byron Bohlsen

Would you really recommend putting about $3,000 into a Volvo (that is to fix all the other major problems plus the transmission) into a vehicle with a resale value of $1,500 and 160k miles.

If you like the car and expect it to go another 100k after the repairs then sure, or buy a different used one you like? The depreciation on the 10k car will almost certainly be more then the delta on your repairs vs value. I am not familiar with volvos and expected reliability but generally speaking its cheaper to keep a beater running then driving newer car. 

The newer car will have stuff that breaks and needs fixing as well, except the repairs will be more expensive vs the older car. My friend has a newer Murano and has gone through 3 transmissions all lasting about 60k miles. All mechanics she talked to says it isn't her car or her driving its just about how long they are expected to last now days(newer doesn't mean more reliable).

I had a nice used mustang and ended up selling for a nice used Maxima, which I ended up selling for a nice used 1998 oldsmobile intrigue, 170k miles, $1400. I actually enjoy driving the intrigue more then the Maxima. Having grown up driving an intrigue I know what maintenance items to expect and when to expect them. My car should last another 70-100k miles.

  My point is there is nothing wrong with driving a beater, especially if 10k is going to have a fairly noticeable impact on your investing timelines. I would not however advise driving a beater beater... rust everywhere, stuff falling off etc.

[Colin Smith]

@Byron Bohlsen

I'm all for driving a beater. In fact, the car I drive now is a 2000 Nissan Xterra with 227k miles. It certainly has its problem but I am not about to get rid of it any time soon. The problem with Volvo's is that they are expensive to repair, as many times you must take them to a Volvo certified mechanic, and with some repairs, you have to take them to the dealer. I find their parts to be more expensive as well.

[Vincent Crane]

Auto loan at 2-3% interest rate and investments returning 5-10%. Definitely finance it, unless you don't like your odds in real estate or stock market investing in the next 3 years

[Jay Hinrichs]

@Steve Vaughan  very good points... when I used to commute from my home in the Napa valley to my office in Portland ORegon.. I had an apartment I rented ( instead of hotel) I used it 9 nights a month.. So basically the same as hotel but much more comfortable.

And I agree I would see very expensive cars in the parking lot were I knew the monthly payment or lease payment was equal to rent or more than rent.

My airport car was always a used low mile's sedan that I paid cash for.  So I think its just a personal thing.. and were you are at in your business career.

it makes no financial sense to do many of the things we do in life like

1. Vacations 

2. boats

3. private airplanes

4. many time second homes ( cheaper to stay in nice hotels)

5. Golf course memberships

And the list goes on. I think with cars if your going to run around to your rentals or whatever you do in RE you need one basically.. And if you get  a sense of accomplishment and pride by owning a nice one then that is enjoying the fruits of your labor. YOu will always have the mutli millionaire who looks dress's and acts like a pauper.. LOL. And you will always have the guy just making ends meet that looks  dress's and acts like a multi millionaire !  its a personal choice.

[Tom Shepard]

@Colin Smith

I pay cash for anything that depreciates (truly goes down in value, not the tax advantage depreciation we all love for our real estate) like cars, computers, etc. And finance things that go up in value, like my properties. 

While I get you are paying five years later on today's dolllars, you are also paying on something that isn't worth nearly the full price you are paying!

[James DeRoest]

Originally posted by @Colin Smith:

@Byron Bohlsen

I'm all for driving a beater. In fact, the car I drive now is a 2000 Nissan Xterra with 227k miles. It certainly has its problem but I am not about to get rid of it any time soon. The problem with Volvo's is that they are expensive to repair, as many times you must take them to a Volvo certified mechanic, and with some repairs, you have to take them to the dealer. I find their parts to be more expensive as well.

 The problem is that the car becomes a reflection of yourself. A beater doesn't say frugal, it says poor. Frugal is driving a 2010 Camry. No one likes to do business with people who look broke. And thats the message that you start to give to people driving a beater.

The other problem is the day that it doesn't start is the day that you will need it most. You're late to a important meeting, what's the first thing that comes out of your mouth "sorry, car wouldn't start". And the people you are meeting instantly form an opinion about you.

[David Tipton]

Originally posted by @James DeRoest:

Originally posted by @Colin Smith:

@Byron Bohlsen

I'm all for driving a beater. In fact, the car I drive now is a 2000 Nissan Xterra with 227k miles. It certainly has its problem but I am not about to get rid of it any time soon. The problem with Volvo's is that they are expensive to repair, as many times you must take them to a Volvo certified mechanic, and with some repairs, you have to take them to the dealer. I find their parts to be more expensive as well.

 The problem is that the car becomes a reflection of yourself. A beater doesn't say frugal, it says poor. Frugal is driving a 2010 Camry. No one likes to do business with people who look broke. And thats the message that you start to give to people driving a beater.

The other problem is the day that it doesn't start is the day that you will need it most. You're late to a important meeting, what's the first thing that comes out of your mouth "sorry, car wouldn't start". And the people you are meeting instantly form an opinion about you.

 It depends how you take care of your "beater."  I drive a 2006 Honda Civic that I keep garaged and well maintained.  It currently has 115k miles and should run for several more years before I have to put her down.  I consider it a "beater," in that I can put miles on it and "beat" on it without worrying.  I would consider a 2010 Camry to be a "beater" too, for similar reasons.  

[Byron Bohlsen]

Agreed. Old beater doesn't mean you look like a worthless poor bum...As long as it isn't ghetto looking like an 80s cutless and/or falling off the wheels. If the car drives well and body is solid then then it's fine. But then again I still wear a sweatshirt I got in 8th grade middle school atleast once a week so maybe I'm a pauper as Jay put it lol

[Daren H.]

What is wrong with financing the car and the investment both? Use the net cash flow from the investment to pay the car note too.

[James DeRoest]

Originally posted by @David Tipton:

 It depends how you take care of your "beater."  I drive a 2006 Honda Civic that I keep garaged and well maintained.  It currently has 115k miles and should run for several more years before I have to put her down.  I consider it a "beater," in that I can put miles on it and "beat" on it without worrying.  I would consider a 2010 Camry to be a "beater" too, for similar reasons.  

 Your definition of beater is wrong. Neither a 2006 Honda nor a 2010 Camry are beaters.

[Adam Smith]

Originally posted by @Brandon Hall:

@Scott Carder Unfortunately, statements like this are not as cut and dry as you may think. @Will Barnard is a business owner which provides him with the ability to deduct 100% of the car's lease payment as a business expense. Assuming Will operates out of an S-Corp (he's a smart guy so I'm positive he's doing this) and nets $350k, by deducting his lease payment he avoids 15.3% self-employment tax, a 1.5% CA franchise tax on net income, a blended CA income tax rate of 7.98% and a blended federal rate of 26.1% for a total of 50.88%.

This means for every dollar of his lease payment, he gets a 50.88% discount and his true cost is only $0.4912 per dollar. True, leasing does make someone else rich, but it can also make you rich given the right circumstances.

@Taylor Marvin I'd love to see your numbers that led you to draw the conclusion that you should always pay cash for depreciating assets (i.e. a car). Perhaps in a high interest rate environment, but I'm not sure that statement can be justified in today's environment (perhaps you will prove me wrong!).

Let's assume the car costs $10k and @Colin Smith puts 10% down leaving him with a loan of $9,000 at a 2.85% interest rate for 60 months meaning his monthly payment will be $314.82. Let's assume the car depreciates another 40% during the five years he owns it. At the end of five years, Colin will have paid $9,889.07 in interest and his car is now worth only $6,000. The true cost of the car to Colin is $13,889.07 (interest plus loss in equity).

Because Colin took a loan in the amount of $9,000, he was able to invest that money at a conservative rate of 8%. At the end of five years, his $9,000 has grown to $13,224. The net difference between the cost of the car to Colin and his $9,000 investment is only $665.12. But that cost is in future value terms so we need to discount it back to today. At a 3% rate (inflation), $655.12 in five years is really $573.74 today. So the cost of the car loan to Colin, assuming he can reinvest $9,000 at 8% (in real estate we often get 12%+) is only $573.74 in today's terms.

On the other hand, let's assume Colin pays $10,000 cash for the car. He doesn't have a car payment, but he also doesn't have $9,000 to invest. At the end of five years, Collin's $10,000 has lost 40% of it's value (depreciation) and is now only worth $6,000 (car's equity). So the car cost Colin $4,000. Again, that's the future value so we need to discount it back to today. Assuming a 3% rate (inflation), that $4,000 cost in five years is really $3,450.44.

In reality, paying cash for the car will cost Colin $2,876.70 ($3,450.44 - $573.74) in today's terms. And this is just a high level example which leaves out the real technical NPV and IRR analysis.

Put the numbers into Excel prior to making any financial decision. It takes the emotion out of it and will often expose you to the truth behind what popular bloggers may otherwise advocate.

@Brandon Hall  Thank you for the detailed analysis.  I tried to follow the numbers but got lost somewhere.  Below are my questions:

1. I calculate a payment on a 9k loan at 2.85% for 60 months to be $161.12/month.  The interest paid for the term of the loan would be $667.14.  Therefore the interest plus loss of equity is $4,667.14.  This might make the argument stronger for the loan depending on what you think of #2 below.

2. In the car loan option you have a car payment and cash to invest.  In the pay cash option there is no car payment therefore to compare "apples to apples" wouldn't you have to consider investing the $161.12/month that would have gone to a car payment in the cash option?  I guess the way I look at it (which could very well be wrong) is in your example Colin has $10k cash and $161.12/month available for a car payment.  Is it better to get a loan and invest the cash or pay cash for the car and invest the car payment. 

$161.12/month invested for 60 months at 8% interest would be $11,838.59 at the end of the term.

If my numbers are correct I still think the end result is the same.....I think.

Thank you for the detailed analysis and explaining it in simpler terms.  I am looking forward to your insight.

Thanks!

[Brandon Hall]

@Adam Smith great catch - it looks like I applied the 2.85% rate per month rather than dividing it by 12. I knew the interest looked high for some reason but didn't review well enough to figure it out, so thanks!

As you have already stated, this will make the argument stronger for the loan - less interest paid = less cost to recover. 

In regards to point #2, if the person who paid $10k cash for the car is also investing the avoided payment of $161.12, then we would also need to assume the person who had financed the vehicle has the same income stream available. Otherwise, the person who paid $10k for the car not only had $10k but also an income stream that they are now investing (they can't invest the saved payment if their money is stuck in the car). 

Technically, to compare apples to apples, we would need to assume that each person has only $10,000 and no other income/expenses. The person who financed the vehicle pays the loan payment out of the $9,000 they've invested, therefore decreasing their invested principle each month. This will demonstrate the true difference, and you probably won't even have to compute NPV, but I'm not up for this kind of analysis unless I'm getting paid :)

Anyway, awesome catch on the payments I appreciate it. And great discussion!  

[Adam Smith]

@Brandon Hall Thanks for the explanation and a great discussion!

Thanks again.

[Nate Richards]

Sorry, (serious question) where is he making 5-10% in real estate on a small amount like 9000, which he can start immediately in the next 1-5 days like a car loan? (and get out of on short notice) If that investment is available, haven't we already been earning 5-10% while we accrued this 10k?

We have to assume this is personal, (a beginning investor) not an S corp, or his accountant would have made the appropriate tax based business recommendation. Most of these comments like to use the argument of % return vs. an arbitrary "I don't want a payment". The same persons however don't "invest @ x%" the 2.99 they saved daily on coffee, so it really doesn't hold up. 

I would love to see the numbers on OP's DTI impact with and without the car loan, @ 100k gross income (ave joint income), with a typical 25% ratio for the primary home. How much investment property financing does he give up for the same amount?

Shooting from the hip, the car payment of $161 looks a lot like a 30yr payment on a 35k rental that generates $850 gross/+$200 net so I'd rather trade the car payment for a house payment (which a newbie can't do while holding a loan on the car due to cash flow DTI limitations)

Since this is ultimately a personal finance (not business finance) question it becomes more individual preference and the calculations have not all been factored in. He hasn't even stated that the balance would be invested at all if not used for transportation. 

I would lean towards reducing required negative cash flow at this point. Too many unknowns.

[Adam Bartomeo]

I pay cash for everything that is not an asset.