Summary: It virtually never makes sense to get a car loan. The only exception might be if you have no other feasible way of getting to a very desirable job (including carpooling, renting closer to work or public transport) and the loan is as small as possible (you can't use savings and it's for an inexpensive, second hand car).
However, most people who take out car loans are buying new cars not used, more often than they need to, aren't saving enough, and have other options to meet their transport needs. Getting a car loan is a choice that is one of the worst financial decisions you can make. Sadly, many Australians seem to be following the American trend and are needlessly impoverishing themselves - not just once but for decades.
Details:
Many Australians seem set on following Americans down the path to perennial car loans, with auto payments just being another unquestioned cost of living (like a mobile phone plan). This is alarming, as apart from poor decisions to buy houses, there is nothing more damaging to people's financial security than unnecessary spending on cars.
The inevitable results of mashing sprawling cities, car-loving cultures and rapacious capitalism can be seen below, with 85% of new cars in America being purchased with financing, average car loans now at $28,000, and average loan terms at 67 months.
Australia's government website aimed at offering consumers sensible financial advice - MoneySmart - provides a few warnings about making sure car loans are affordable but spends most of its "smart" tips telling you how not to get ripped off when getting a car loan rather than avoiding one altogether. Yet, the ridiculous cost of any car loan is evident from any example figures they cite:
While some of Dave Ramsay's figures are exaggerated (e.g. average 12% investment returns), his explanation of the stupidity of buying new cars with financing is pretty accurate:
In a period of low interest rates, the financial shysters will tell you there is such a thing as "good consumer debt" and that you can use "cheap" auto loans to invest in stocks or other high-return assets. This is patent nonsense. People with real financial sense get rich slowly using their savings, not unnecessary debt. Only those ignorant and lazy with respect to their finances fall for the promise of getting wealthy without saving and taking on debt instead.
Mr Money Mustache offers the below simple explanation as to why it's crazy to take out car loans at all, and even crazier to use consumer finance to carry a larger debt which you can throw at investments:
The first barrier to overcome is affordability. If you don’t even have the money invested somewhere to allow you to pay for a car in cash, you are obviously far too poor to buy that car. Wake up! If you couldn’t save the money by this point, what do you think it will do to your finances to hang a giant boat anchor of mandatory principal and interest and insurance payments around your neck? You are in a bad place right now – you obviously don’t need to make it worse for yourself!
But let’s say that you DO have enough money for a car. Five grand, ten, twenty, even thirty grand. It’s just sitting in your bank account, and that’s not even counting the money you have ‘stashed away in your 401(k). You plan to invest this cash soon so you can earn dividends and capital gains, and the dealer down the street is offering auto financing at only 1.9%. Borrow the money cheap, and leave it invested at a higher rate. That’s a no-brainer, right?
...
So how does Auto Financing fit into all of this? How do I answer the person who wanted to borrow from the dealer so he could pay 1.9% interest and invest the balance?
The reason you don’t want to do that, is because you don’t want a new car. It’s not until you get into “taxi driver” levels of annual mileage that the inventory effect of a car’s cost becomes small enough to ignore.
The second reason you don’t want to do that, if you have limited willpower, is that it might entice you to buy a more expensive car than you would have otherwise bought in cash.
Mr Money Mustache: New Cars and Auto Financing: Stupid, or Sensible?
Further Info:
Mr Money Mustache
New Cars and Auto Financing: Stupid, or Sensible?
Car Strategies to Cut your Costs in Four (or more)
Australian Broker Online
Surge in Australians borrowing to buy a new car could be troublesome
MoneySmart
Car loans
Getting a car > What can you afford
Drive
The 10 most popular cars of 2014
Juggling Dynamite
Financial insanity at its finest: “take out car loan to buy stocks”
COMMENTS