We did something good! (After being ridiculously bad)
Cars are rapidly depreciating assets yet so many people invest heavily into them. So much so that they are willing to take out loans to afford even more expensive vehicles on credit. Is this a good idea?
The simple answer is no.
One of my favorite books, which deserves a proper write-up at some point, is the Millionaire Next Door. This books reminds us that most American millionaires are the first in their family to achieve this financial status. Among all of the lifestyle-orienting facts is the tendency of America's millionaires to buy used vehicles. Why is that?
It's because of the nature of a car's value. Most cars, unlike other equities and assets, lose their value very quickly as they are used. Each mile and (more impactful) each year added to the vehicle sharply decreases its value over time, unlike other investments in homes, stocks, and bonds.
Let's take a basic look at some graphics that show how this works:
Even after seeing the stark comparison of how money changes over time, you might still say, "Hmmm... I like my $10,000 but I don't want it to work for me, I like cars better." And someday, when you are financially independent, that will sorta be okay. I am not yet to that point and neither are most of you, so don't do it! Always use magic to make money!
In general, I consider myself to be pretty smart. I had already read the Millionaire Next Door and felt like I knew all I needed to buy a car: Just Buy Used. Of course, we haggled for hours with the dealership salesperson to get it down to a great price, but the cost was still greater than what we should have spent on a car at the time.
And yet, we still had another, more fatal flaw in our plan.
And I admit here, as a humble man, that my PYT and I did purchase a used car with a loan.
This was incredibly stupid of us to do!
Taking into account the equity of our house, all cash on hand, and all investments in financial systems (IRA and 403b), we had just promised over 15% of our wealth to our lender for the right to drive the stylish and lush wagon around town.
Not only did this not make sense because of the portion of our wealth that it sucked up, but we made it worse by guaranteeing the lender an extra 5% interest on the sale in our monthly payments.
However, after about 4 months of paying monthly payments and the extra interest on the car, a wise man reminded me that all loans are deserving of a punch to the face†. Fearing the pain of that punch, I looked through my savings account and realized that I had nearly enough in cash to pay off the car if I just waited until my next paycheck to pay the couple hundred dollars above what my savings could cover.
So we unloaded over $10,000 all at once in a heart-breaking, soul-shaking, water-in-the-face moment. However, this crushing moment quickly passed and we both realized something special.
For the first time, in over three years, we did not have a car payment and extra money was sitting in our accounts each month just waiting to be invested. That money is going toward savagely paying off our student loans, which will be a discussion for another day. Suffice it to say that paying off that loan saves us a guaranteed 5% because of the interest of the car loan. This is an improvement over the 1% interest that my savings was earning just being lazy in an Ally Bank account.
Please join as we battle our own stupidity and we (try to) save us.
†This excludes mortgages which we will talk about later.