Is Your Car Ruining Your Budget?

Car Purchasing

21 comments

in Budget

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 )

Kevin At Out of Your RutThis 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.

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{ 12 comments… read them below or add one }

Mike Piper 2010/05/26 at 4:34 am

For my prior job, I needed a car to drive to work. After quitting to go self-employed, my wife and I sold our car. (We live in Chicago, so being car-less isn’t really a big deal.)

Between the car payment, property taxes, city parking permits, maintenance, insurance, and gas, our expenses dropped by about $500/month, or $6,000 per year. When you factor in income taxes, it’s as if we got a raise of $8,000. That was a significant part of what made it possible to go full-time with blogging/writing. 🙂

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Kevin 2010/05/26 at 12:01 pm

Ain’t it the truth! Cars are a major part of the average household’s budget–more so with a big debt service.

It would be great to go without a car from a purely financial perspective, but failing that there are less expensive ways to own a car that we often overlook in our fascination with convenience.

A second hand car is one way; paying cash is another. In a two car household, having one fairly late model car in combination with a beater for the spouse who works closer to home can also be an option. Insurance and ad valorem taxes are closely tied to the value of the car, so the less value, the lower the carrying costs.

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Khaleef @ KNS Financial 2010/05/26 at 6:10 am

Great post! Most people tend to ignore the true price of the car, or all of the other costs that go along with it. They just look at a monthly payment and go from there!

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Kevin 2010/05/26 at 12:02 pm

Do you think that the fixation on monthly payment (while ignoring all else) might be part of the wishful thinking that causes us to buy more car than we should?

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Khaleef @ KNS Financial 2010/05/28 at 11:32 am

Yes I do. I think that breaking purchases down into monthly payments is one of the largest reasons why people feel comfortable with living above their means! From houses to cars to computers, no one focuses on the bottom line price anymore.

MyFinancialObjectives 2010/05/26 at 7:10 pm

I’m doing pretty good in this department! Bought a 98 Ford Contour from a government auction for $900.. No payments, runs just fine, only 40 some thousands miles….This way I can save up for my Buick LaCrosse in about two years… USED, of course:)

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Kevin 2010/05/27 at 4:15 am

Used definately seems to be the way to go. I’m now in the market for car and we’ll be going that route. 2-3 year old vehicles for half what you’d pay for new. That lowers the debt service and everything else.

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rick@rickety 2010/05/31 at 10:27 am

If you live in a state where compressed natural gas (CNG) is less than a $1 a gallon, like Utah and Oklahoma, consider switching to a natural gas vehicle (NGV). I did and I am saving around $150 a month on my commute and running around town. 60% of the savings is because of fuel and 40% comes from more mpg. Every time gasoline increases I save more money because the CNG price is regulated by the state and rarely increases. Currently CNG in Utah is 93 cents a gallon gasoline equivalent (gge).

I made some notes about driving a NGV in Utah, if any of your readers are interested:

http://www.rickety.us/2009/11/driving-on-the-cheap/

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CJ 2010/06/01 at 5:57 pm

I bought a new car only once. While I did drive it to 220,000 miles, I still learned my lesson.

Now I look for a care with a reputation for high mileage (I haver a Subaru currently), buy used, and take good care of it. As far as that goes a good, honest mechanic is worth his weight in gold. After the loan is paid off, I see if I can put that much away every month in a savings account. By the time I need a new car, I have a healthy down payment ready to go.

Buying slightly used makes a big difference in loans, in maintenance, and in insurances and taxes.

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Kevin 2010/06/01 at 6:36 pm

CJ – I totally agree with what you’re saying on used cars, but it sounds like you did well on the one new one you bought. If you can drive a car for 220,000 miles, that’s like getting two cars for the price of one! Maybe it’s not quite as cost effective as buying a used car, but it’s real close to being the next best thing!

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Financial bondage 2010/06/28 at 9:11 am

The $2750 transmission overhaul sure did not help the budget.

My car is 9 years old and finally paid for. I hope to keep it at least another 9 years.

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VaughnMildred21 2010/07/05 at 6:48 am

I took my first business loans when I was very young and that aided my relatives very much. However, I require the consolidation loans once more time.

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