Thursday, January 6, 2011

Buying that new car

A bunch of kids (twenty somethings) at church just recently purchased brand new cars. Of course they were 0% down and 0% APR financing for 60 months. Boy, that shining car looks really nice. Was this a smart decision?

Here's the breakdown. In this scenario, a $15k new car would be $250/month or $3k/year and probably under warranty for the first 60k miles. So in any case, owning a car is expensive.

Dave Ramsey says that we shouldn't even consider buying a new car unless we have $1Million net worth. Why is that? Because of compounding interest. If we invest $250/month for 60 months and earn 10% interest that $15k would actually be something like $18k. If we continued this habit for not 60 months, but for 30 years, that $250 would be $493k. By forgoing a little in the present time we can save up a bunch through investing.

If they paid $3k-4k for a used car, they probably would have to pay maintenance and car repair, probably $1k-2k/year. What about a $3k car today? Using our same assumptions of 10% return and 30 years, $3k today would be $52k in 30 years.

But I need a car now. Okay using our above values... a new car paid in full after 60 months would cost about 18k. Hold on to your horses. 18k at 10% return for the remaining 25 years would come out to: $195k.

So what would you rather have? $52k less in 30 years if you bought a used car or $195k less if you bought a new car?

OK, what about maintenance costs? Okay, let's say we spend about $1k each year for maintenance on the used car. LAST SCENARIO: After 5 years, we would have spent $3000+5000=$8000. Including maintenance, our used car would come out to about $82k over that 30 year period.

My advice for the young kids out there. $250-300/month may seem like a doable payment, but you are missing out on a larger nest egg of over $100k if that money was invested.

Don't be fooled by these new car ads. That's why we had a 1991 Honda Civic, currently driving a 1999 Ford Ranger and 1999 Nissan Quest. All with retail values of less than $5k. They may not look nice, but they drive fine. And in the long run they are saving us $100k+.

What can a budget do for you? (Hope I don't sound like a used car salesman).

Financial Strategy: convincing 20 year-olds to make ROTH IRA Contributions
Dave Ramsey:saying no to new cars
Great Video: Drive Free

No comments:

Post a Comment