Every car shopper would probably prefer a new car over a used one when given the option. But while more and more new cars are purchased each year, most of these car shopping purchases probably weren’t the best financial decisions. In fact, according to financial experts, only one type of person should buy a new car, and you’re probably not one of them.
Why buying a new car is one of the worst investments you could make
New cars are tempting and certainly come with advantages, like minimal-to-no mileage, warranties, and new, shiny features. But according to financial expert Dave Ramsey, buying a new car may be one of the worst financial investments of your life. This is especially true for the majority of car buyers, who borrow money to pay for a new car, in the form of a loan. In order to pay for a new car, a large percentage of buyers will make monthly payments across many years. And when it comes to what’s best for your finances: “you should never borrow money for anything that goes down in value.”
New cars not only cost more than used cars, they are never really new. The second you purchase any vehicle, it begins to lose its value. And new cars “lose their value at a much faster rate than used cars do.” Of course, some makes and models tend to retain their value better than others, overall, the value of new cars depreciates drastically the second you drive it off the lot.
Research indicates that new cars (at an average of $35,000) lose between 9-11 percent of their value the minute it’s purchased. After just one year, the car’s value drops 20 percent or more. And after five years, the timeframe in which many new car owners are just paying off their loans, the car has lost roughly 60 percent of its value.
And while newer cars are less likely to require maintenance, new vehicle owners must still consider a car’s true cost of ownership, which includes repairs, maintenance, fuel, insurance, and more. For most people, the combination of sticker price, monthly payments, loan terms, and ownership costs, the investment of a new car is a bad one.
Is buying a new car ever a good idea?
Dave Ramsey and financial experts just like him believe that purchasing a new car is simply unrealistic and disastrous for most people. In fact, according to Dave Ramsey, only millionaires should be buying new cars. According to Ramsey, it is best to buy built on a ratio of your financial situation, and only when you’ve reached millionaire status does the ratio of income-to-car-value become a worthy investment.
In simpler terms, a new $50,000 car will take up far less of a percentage of a millionaire’s income than someone who is making $50,000 per year. And the vast majority of people who fall under this millionaire status also purchase a new car outright with no loan payments. This equates to a greater ability to “financially absorb” the loss of the car’s value and better the overall investment.
How to figure out how much you can really afford
Of course, the most financially sound way to purchase a car is to buy it outright, whether it’s new or used. Monthly payments include interest and fees, and there’s always the potential that you’ll be paying for a car each month that is no longer worth what you’re paying for it. For a general rule of thumb, the total value (not cost) of your vehicles should not exceed half of your yearly income. But as most people are not millionaires, finding a car that suits your financial situation is not that simple.
According to Business Insider, there are quite a few ways to figure out how much car you can really afford, without going into financial ruin. “If your car payment is greater than how much you save and invest each month,” for example, you’ll stay on a path of financial destruction. It’s also important to remember if your loan period must reach beyond just a few years in order to afford a monthly payment, you can’t really afford it.
Your loan payment should not exceed 10 percent of your monthly take-home pay, while total car expenses (including loan payment, insurance, gas, repairs, etc.) should not exceed 20 percent. Keeping these rules in mind can help you find a car you can afford for the long-run.