Your car loan: Finance or pay it off?
Which is more beneficial -- financing or paying cash for a car?
To Her Credit
Dear To Her Credit,
I have an auto loan that I could pay off now if I wanted to. I've been making automatic withdrawal payments for about a year. I'm getting married next week.
If I keep making monthly payments, is there any advantage? I remember hearing from someone that paying a loan over at least two years is a good way to build credit. I wonder if that's true or if I should seize the opportunity to be debt free.
If I do pay off my car, I'll cherish my current checking account balance for a minute or two before I bid it farewell. I'll be sad to see it go, but glad to own a car! -- Andree
Pay it off! What a great way to start married life without dragging the burden of old debts into it. If only everyone were able to do that!
You've already proven yourself by making payments faithfully for a year -- another year won't make a big difference in your credit score.
More importantly, you can save all that interest expense, not just on this car, but -- if you plan it right -- on your next car and every other car you buy for the rest of your life. Here's how it works:
A typical car buyer walks onto a car lot. She thinks she knows how much she'll pay for a car. Naturally, she expects the dealership to arrange the financing -- it's so much easier that way than dealing with the bank.
The hardworking salesman does what he's paid to do -- get her into the highest priced car he can. He does this by persistently showing her cars a little more expensive than what she asked for and referring to the monthly car payment when possible instead of the full price. He's chatty and friendly, and if he's really good, she may even leave feeling like he did her a favor by setting her up with an overpriced car and payments from here until the car is ready for the junkyard.
By the time our typical buyer pays off that car, she needs another one. Of course, she's been so strapped making car payments that she has nothing saved up for the next car. But the old one is running up huge repair bills and is getting undependable, so off she goes to the dealership to start the cycle all over again. She'll be making car payments forever.
On the other hand, there's you. You've saved enough to pay off your first car, so you do. Once you get a taste of the car-payment-free life, you won't want to go back. You'll drive your car longer, avoiding balloon-festooned dealerships as long as possible. And, as you've proven yourself to be a saver, when it does come time to buy your next car, you'll be ready.
Now when the hardworking salesman sees you on the lot, he has a lot less to work with. With your usual savvy, you're selling your old car yourself, so he can't play with the trade-in numbers. Take away his chance to provide the financing by arranging your own financing upfront (with either your bank or credit union), and his four-square worksheet -- a tool salesmen use to work with down payment, car price, monthly payment and trade-in to get you into a deal while preserving the dealer's profit -- isn't going to help him. You've pared the variables down to just one: price. And if you do have to borrow money to buy the car, don't visit the showroom until after you've been preapproved for a low-interest car loan. That puts you in the position of asking the dealer to beat the great deal your bank or credit union has given you.
Further, after saving for a car for years, you're not easily going over your budget a few thousand dollars. You're a tough customer.
It feels great to buy a car with cash if you can -- it's even fun to see the reaction of salespeople when you do! Best of all, if you buy all your cars from here on out with cash, you'll save all that interest, and earn interest as you save for each of your next cars.
Staying out of consumer debt, including car loans, is one of the smartest moves you can make for your big financial picture. And if you take care of the big picture, your credit score will take care of itself.
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Published: June 25, 2010
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