In the never-ending pursuit of saving money we search out every nook in our lives trying to find hidden and unnecessary expenses we can either cut or eliminate. But try as we might to find small reductions in a whole bunch of places, eventually we bump up against the wall of our fixed expenses—the truly big ones that can’t be cut without eliminating the asset or the benefit behind them.
Housing and healthcare are two major examples, but the one that I’d like to focus on here is your car.
Much like a house, where an entire chain of expenses proportionate to the purchase are set in motion at the closing table, your car expenses are largely set at the time you buy your vehicle. Once you close the deal, there’s no way to cut the expense substantially without replacing the car with another.
This post is largely about what to consider when buying a car, but it’s also meant to stir some thoughts about the possibility of selling the car you now have if it’s proving to be an unsustainable burden.
Should you buy the most car you can afford?
It’s almost instinctive that we buy the most car our incomes will allow. We want a vehicle that incorporates the latest in automotive technology and safety features, and though we’re loath to admit it, one which will project us in the most positive light.
Buying a new car is often a game of bargaining-with-the-Devil in order to make the purchase with the least amount of cash out of pocket up front. That usually puts us in a position of accepting the highest possible debt financed over the longest time frame available—an arrangement that will plague us for years.
But how much debt is too much?
When you apply for a mortgage, the typical debt-to-income ratios used are “28/36″—28% of your stable monthly income is the maximum allowed for your fixed monthly house payment, and 36% is the maximum amount of your income which can be allotted to your total fixed debt payment, including your house payment. Though the guideline was largely ignored in the years leading up to the mortgage meltdown (hint!), they’re time honored and an excellent barometer of ability to manage debt comfortably.
If you’re in a situation where your house payment is consuming something like 28% of your monthly paycheck—or that’s the plan when you do buy a home—you’ll be left with only 8% for all other debt in order to be in the credit comfort zone.
So if you’re looking for a metric to determine how much you can afford for a car payment, you might take 36% of your stable monthly income, subtract your current (or expected) house payment and any other debts you have (including student loans!), and the amount left over will be a excellent gauge of how much of a car payment you can manage without too much difficulty.
The cost is more than a monthly payment
A friend of mine worked for a one of the largest auto dealers here in Atlanta, as both a salesman and as a finance manager, and he shared some of the backroom goings on that happen in the world of car sales.
In an effort to keep themselves in a new car—as well as to eliminate down payments—a large percentage of customers would roll one purchase or lease into another, often before the first was fully paid for. The result was that the deficiency on the first car was rolled over to the new one and the owner was “upside down” on the new car—he owed more than the car was worth.
Ultimately, the only way to get out of this kind of predicament is to either a) keep the car and pay the loan until the very end, 2) turn in the car along with a substantial amount of cash to payoff the unsecured portion of the debt, or 3) default. Should the payments on this vehicle become unsustainable, none of those will be good options.
This is what happens when the only consideration is an acceptable monthly payment.
The best ways to avoid this?
- Never ignore the actual price of the car; no matter how the financing is packaged, this is the actual cost of the vehicle, and it should never be exceeded by the financing.
- Buy a car that’s beneath your means.
- Make a substantial down payment, either with your trade in, or with cash if necessary; the more you pay up front, the less the car will cost down the line.
- Avoid packing the car with “nice to have” options.
- Control the “I need it now” mindset; there’s little in the car universe we truly need.
- Know the value of the vehicle you already own by checking on Kelly Blue Book to make sure you don’t owe more than the car’s worth. If you are upside down, you need to fix that before buying anything new.
Never forget about gasoline
Along with financing, another cost set at the time of purchase is fuel consumption. The purchase of a certain type of vehicle locks you into a certain level of fuel consumption that won’t be easily remedied if gas prices rise.
Gas prices tend to rise much more quickly than they fall, so when a price spike takes hold conditions tend to deteriorate quickly and options are constrained.
Large gas guzzling vehicles that seem affordable when gas is a couple of dollars a gallon will face a double whammy if fuel rises to $5 a gallon: a correspondingly higher cost for fuel and the inability to sell the vehicle. Gas guzzlers have an inverse value with gas prices—as gas prices rise, the value of gas guzzlers fall.
Forgotten costs: maintenance, repairs and insurance
As a general rule, the more expensive the vehicle, the higher the associated costs will be as well. This includes maintenance, repairs and insurance.
There’s a tendency when buying a car or when looking at our financial situations to look mainly at fixed expenses and to ignore the rest. But routine maintenance in particular must be calculated into the cost—the saying “you’ll pay now or you’ll pay later” is well founded.
What will the neighbors think?
There’s no way to avoid the emotional factors attached to car ownership. In our culture, the saying is “you are what you drive” and that thinking has a large influence on the price we pay for what we drive.
When buying a car, ask yourself if you’re buying a car for you—or one that you think will impress others? Do we really need a certain car for professional reasons, or is that mostly a justification? Can we afford the cost of impressing others?
Unfortunately, most of these questions only become apparent to us when our financial situations make a negative turn and we’re looking to cut expenses. But by then, when it comes to a car, it’s usually too late—we locked in our budget when we bought the car.
Ultimately, the only way to tame a car expense problem, may be to get rid of the car itself.
Have you ever bought a car that you realized only later to be a financial mistake? Are you struggling now with a vehicle that’s draining your finances? What are you doing about it?
(Photo courtesty of daveparker )
This post is from FiscalGeek staff writer: Kevin Mercadante. I’m very excited to have him contributing to the site. You can find out more about him at his own blog OutOfYourRut.com.