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6 Reasons to Buy a Car with Cash and Avoid Car Loans

By Jason Steele

buy car cashDo Americans love their cars too much? Even as a car lover myself, I would argue yes. There is no other explanation for our behavior. Most of us who wouldn’t consider financing furniture or appliance purchases will take out a loan to finance our vehicles without a second thought.

Every time I fill out an application that inquires about my family’s finances, there is always a section that asks how much my car payment is. Ever since I bought my first car, my answer has always been the same: zero. Yet, I invariably see friends and co-workers driving around in new cars bragging about the great terms they got on financing. As you will see, great financing is always an illusion and you actually should never borrow money to buy a car. Cash is still king when it comes to purchasing your car.

Reasons to Buy a Car with Cash

1. Financing Leads to Lost Discounts
Auto makers love to attract customers with financing offers that sound spectacular. One or two percent APRs are popular and zero percent offers are sometimes even options. The one thing many people forget, however, is that all of these offers come at the expense of a higher price. Read the fine print and you will most likely see that there is a rebate offered to buyers who decline financing. But even in cases where that’s not explicitly mentioned, you will always be in a better position to utilize effective negotiation strategies when you bring cash to the table.

2. Auto Loans Are Not Tax Deductible
A mortgage on your primary residence and a student loan can both be great deals because you can deduct interest payments from your income and pay taxes on a reduced amount. However, there is no such tax deduction on automobile loans.

3. Cars Loans Will Be Upside Down Most of the Time
We all know how a car depreciates by thousands of dollars the moment you drive it off the lot. From then on, you are far more likely to owe more on the car than it is worth. Being upside down on a car loan is in many ways just as bad as being upside down on your home mortgage loan. In both situations, you are paying more for something than it is worth. And although a home may someday increase in value, this can’t be said of the majority of cars on the road today.

4. Paying Interest Can Drain Your Finances
While most people simply assume that they will make a car payment every month, imagine what you could do if you never had that obligation. You could save for retirement, afford a larger home, or simply increase your discretionary spending. Don’t forget that when you make a car payment, you are paying interest. Instead, why not save your money to buy a new car with cash and earn interest at the same time?

5. A Car Payment Eats Away at Your Safety Net
Since my wife and I both own our cars outright, we have fewer monthly expenses. Should we lose our incomes, our safety net will last longer than it otherwise would have. In fact, when I envision a doomsday scenario where I am out of work for an extended period of time, I could even sell my car and use the proceeds towards my family’s financial survival. With a car loan or lease payment, I would be in a much more difficult financial position.

6. Car Loans Mask the True Cost of Your Vehicle
Buying a car with cash and selling it years later really makes you understand how a vehicle depreciates. But when you finance the purchase, this becomes less apparent. If you’re like most people, when the car is paid off, you’ll trade it in as a down payment for your next vehicle and begin the cycle all over again. This makes it harder to look at your car purchase for what it actually was: one of the most expensive things you ever bought that then lost tremendous value over the time you owned it.

hands car keys cash

How to Avoid a Car Loan

First, you must let go of the need to drive the latest and greatest vehicle, even if you live in an image-driven city like Los Angeles. A car is merely a tool to get from one place to another. Frankly, it is just another thing that you own and not worth going into debt over.

Next, you have to realize that there are plenty of really fun, reliable, and safe used cars available for far less than you might think. Even if you love cars, there is still probably something you can live with in almost any price range you can afford in cash.

If you don’t have enough cash to make the purchase, be patient. Save more money faster by sacrificing small luxuries like eating out multiple times a week. Additionally, take on part-time work from home to complement the income from your full-time job. Make a budget and plan. Once you’ve saved enough for the purchase, you can give up the part-time job or go back to eating out every week if you want. But the last thing you want to do is deplete your nest egg to buy a car with cash.

To find an affordable car within your means, you may have to slightly lower your expectations or consider the option of buying a used car.

Going from a Car Loan to Paying Cash

Many people will need to pay off their existing loan before they can begin saving for their next car. Once you own your car outright, a great strategy is to save the money you would have otherwise spent on a car payment for your next car purchase. When the time comes to sell your car, you can then add your savings to the value of your existing vehicle and begin looking for a car in that price range.

The good news is that as cars get older, depreciation slows, especially if your car has been well-maintained. In other words, you don’t lose much value by keeping the car longer, and you can significantly pad your savings during that time. Thus, you can afford more car when it comes time to replace it.

Final Word

You may have gotten into the car loan cycle because you originally couldn’t pay in cash and needed transportation. But you need to break out of this habit. Saving for big purchases and then paying cash for them is not only a smart financial move, but it brings along with it a certain pride of ownership and awareness of the value of money.

There is no rational explanation for why people who can save money would gladly borrow money to buy a car. Their decision is often uninformed or purely emotional. Yet emotions and a lack of information do not direct sound financial decisions, especially when it comes to large purchases. By making a few adjustments in your spending or saving habits, or your attitude about what kind of car you need, you can ultimately free yourself from the endless cycle of car payments.

Do you plan on buying your next car completely with cash? Why or why not?

(photo credit: Shutterstock)

Jason Steele
Jason has been writing about personal finance, travel, and other topics on blogs across the Internet. When he is not writing, he has a career in information technology and is also a commercially rated pilot. Jason lives in Colorado with his wife and young daughter where he enjoys parenting, cycling, and other extreme sports.

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  • http://pulse.yahoo.com/_54EFQGC2FOZ6IU23F2KUHU7V7Q Kris

    And the best part of all…the feeling of paying cash for such a large purchase. And if you don’t have a lot of cash, you can get a good used car for under $10,000, or even $5,000, just make sure to take a test drive and get it inspected by your mechanic (costs about $75 and money well spent).

  • http://pulse.yahoo.com/_FVIKWKXA2XO6YECZKBMZLURLXY Martin

    I totally agree. I have never financed a car. When I was 16, I bought a used car that I paid $200 for. Then, when I want to college, I bought another used car and paid $500 for it. After I graduated college, my company provide a company car since I was on the road most of the time. Anyway, I had saved enough to pay cash for my first new car when I finally got a regular office job. I have been doing the same ever since. To finance a car is really stupid since the moment you drive off the dealer lot, I depreciates immediately. You are paying interest on a vehicle which is now underwater(like many of the houses are right now). For me, if a car holds together and does not cost much in repairs, I will literally keep it until it falls apart(10-15 years). By the time it dies, I will have plenty of saved money to buy another new car.

  • Daniel Isaacs

    You are paying to defer cost. There are risks in deferring costs, but there are also risks in paying them upfront. In most cases, by financing you are preserving a safety net. You should of course buy used, and factor the costs of financing (the total cost) into the equation. But after factoring in inflation (~2-3% annually), and lost interest on the capital, deferring costs starts to look a lot better. The cost of that car loan isn’t quite what you think it is.

  • http://forexforliving.com Info

    Agreed…. Don’t use loans as our living style.

  • Wexfordcoin

    Very easy to do the math on the total cost of financing a new car: Purchase Price Financed times Years Financed times Interest Rate times .55, the average outstanding balance during loan period. $30,000 times 5 years times 6% times .55 equals $4,950 for a vehicle’s financing cost or $34,950 total vehicle cost, more than what my parents paid for their first house in 1960!! Interest rates are likely to go up in the years ahead, and new cars are overpriced to begin with in my opinion, so consider buying a used vehicle with under 30,000 miles and a clean, non-rental vehicle CARfax out-of-state in a depressed economic area of say the Midwest and paying the sales tax locally when you bring the car back home and register it. Always nice to walk away from the DMV with the title in hand!! Many repossessed vehicles are starting to show up on AutoTrader now, so prices are going to sag in the used car market going forward as the Double Dip bites harder. A depreciating asset any way you cut it, so why add to the cost by financing it. Hold for ten years, they are much better built these days, very reliable up to 130k to 150k miles, and rust will no longer force you to the dealer’s lot.

  • CarFreak

    All good points indeed, Jason. Yet, I find some common sense in financing a new car with dealer/manufacturer incentives at zero to very small interest rates and using that large amount of cash elsewhere. Credit unions also carry tremendous financing rates compared to a lot of banks that would allow the same rationale for investing the cash that I would have otherwise spent on the new or used car. I can take the money I would have spent paying cash for a new car and invest it in my retirement account which earns tons of interest more than what I am paying for my new car. In the long run I believe that using other people’s money to finance my retirement obligation to myself and my family (since Social Security probably won’t be around when I retire) very attractive. Additionally, although the car might not be worth as much as I paid for it on the market after I drive it off of the showroom floor my insurance company offers ‘GAP’ insurance at a very small premium. The GAP insurance allows me drive my new car ‘at peace’ knowing full well that if someone ‘inadvertently’ T-bones and totals my new car the insurance company will absorb the full value of my car. This enables me to replace the car at retail pricing. As previously mentioned I agree that buying used cars that are practically new probably makes the most sense. Credit unions will also finance these vehicles at phenomenal rates compared to what banks lend out. Buying a used vehicle will allow an individual to purchase a car that has already lost the initial decline of the ‘showroom to road depreciation.’ A number of used vehicles are eligible to receive the balance of the manufacturer’s warranty.

  • http://www.facebook.com/people/Alexandra-Cean/1538629417 Alexandra Cean

    My current car was $2,800 and it’s a honda. Once my car breaks down I’ll probably plan to pay 3-5k on a car, if not less. I hope that I can make it through grad school with my current car. Use carfax, consumer reports and bluebook while searching for a used vehicle. Bluebook lists my car ( in excellent condition) as being worth 3k, nice! I do not see the purpose in buying new cars, unless you’re wealthy. I’d rather not make car payments each month!

  • John Alex

    Unlike credit cards—where the lender has no specific claim on your
    assets—it you fall behind on your car loan, your car can be repossessed.
    This reason alone should remove any casual notions we have about car
    loans. They’re higher risk than almost any other loan type!
    Even if your house is foreclosed on, there is an extended period of due
    process that can take a year or more in many states, giving you valuable
    time to maneuver. No such protections exist for a car loan; stop
    paying and the repossession process is pretty swift.Chrysler service

  • Adam

    My strategy with a car? Buy it outright and drive it to thee ground. Only then will I buy a new car (unless, of course, I can afford to buy a new car with cash). Right now I’m in an ’89 Ford pickup, which isn’t showing any signs of giving up yet. So by the time it dies I should be able to afford a newer truck, one that’s much, MUCH better than anything out today. That one will be a 1 owner vehicle from dealer to junkyard (or apocalypse).

  • Poetic Justice

    Well I was back and forth about whether I was going to refinance my next vehicle. After a terrible car crash, I really found myself in the hole with a financed vehicle. Reading this has really solidified my option to save next time.

  • black_wolf_bmw@yahoo.com

    Well while paying cash is nice and saving up in some cases for some people it’s not feaible if thye plan on getting to and from a job beyond a walk or bike (assuming they own one) ride away. Unlike most cities on TV where they show the buses and stuff and peopel riding bikes to work without breaking a sweat every day in real life, some places do not have good public transportation systems or even work when buses are running nor have family or big network of friends or carpool people to get around with. And not every place is safe to ride bikes long distance. Thus a person may not have a year or two to try and save money withotu a car or try and save money while spending car loan rates that go into the pocket of cab drivers. Cabs, yes, but over time cab rides can be way more expensie than financing a car including gas and highest insurance rates. Like here, a cab ride that is about 15 min drive to work, no buses run here, cost a little over $20 each way or $40 round trip, just back and forth from work not including other stuff that people must do in daily life. Assuming 5 days a week, that is $200 every week or about $800 a month. Which is about a monthly payment for a new or near new Mercedes (with decent credit and 10% down) A car is needed and even if they finance they save money i nthat case. Now in a place where the public transportation system is extensive, there is more leeway but unfortuinately nto everyoen have that luxury. Teh catch is try and not get oneself in a hole if one must finance. Easier said than done, because even if one go by the no more than 15% income rule, that means a person making $40,000 grand a year take home pay, should not buy a car worth more than $5,500 but thing that do not seem to be considered is that as cars age and that cost $5,500 is probably getting long in the tooth and probably have no warranty, is repairs and maintance which can also eat up the savings especially with modern cars that require frequent trips to the dealership as they age. And depending on location what that $5,500 buys also varies greatly. In a place liek LA or NYC the choices are probably limiless. in many other places $5,500 may not get much. Which may be adequate ride, Now if a person already have a car paid off then there might be no reason to finance a second car.
    In short while it may make no sense for people to finance and should buy cash the reality is that sometimes a person dont have much choice unelss they feel like sitting at home trying to save for a car using unemployment checks.

  • David Jervis

    If the question is simply whether to finance or pay cash then the answer is that Every single 0% car loan offers a cash alternative. Let’s say you’re buying a $40,000 car and they are offering you a choice of 0% financing or a $5000 rebate. Then that $40,000 car is actually worth $35,000 new (something is worth what you can buy it for) – and when you finance it their asking for the $5000 interest charge up front to cover the phony 0% loan their showing you on paper. It also hurts your cars resale knowing their always offering up deals like this on brand new ones.

  • Chloe

    I buy new. There are usually rebates and negotiating room. I’ve seen used cars of the same type pretty close to the price of new. I don’t have to worry about a carfax or if the previous owner abused it or if I am generally getting a good deal and I have at least a 3 year warranty. I keep cars until they fall apart, which is generally longer than any used car will.

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