What Financial Direction Does Your Car Drive?

October is one of the best times of year to buy a new car according to the great website Lifehacker. Why? Because new models were released in the summer. This means that the end of the year can be a great time to buy a car – if your are willing to get last year’s model.

We are all about financially intelligent lifestyles and the car buying process has been a hot topic of conversation in my practice as of late. Based on what I have seen, I am pretty sure that many Americans are not building wealth due to their choices in cars. Aside from a house, no budget item will make as much of a difference in the growth of your wealth.

Do we get the luxury car? Do we get something more economical? What is the difference between buying or leasing? How much will any of these choices cost me in the long run?

Luxury items, such as a nice car, may be an important part of your lifestyle. Perhaps it’s not or you really haven’t thought much about it. However, as in any other financial decision, your car purchase can have an huge opportunity cost – that is, what the money may have earned or been spent on elsewhere.

According to the book, The Millionaire Next Door, the majority of millionaires own their cars, rather than lease. Some purchase the current year model, but another quarter drive a car that is four years old or older. More than a third tend to buy used vehicles

Eighty-six percent of “luxury” cars are bought by non-millionaires. In fact, Stanley writes that “one in three people who traded in their old car for a new one were upside down and owed more on the trade-in than its market value.” It’s very difficult to get wealthy doing stuff like that.

Let’s do some math.

A lot of our friends have kids, so they are usually looking for a vehicle that can accommodate 7 people for all those carpools.

Scenario 1 – Buying More Expensive New Car vs. Less Expensive Nice New Car

Say, our friends have decided to purchase a nice ride from the Infiniti family. They have decided to purchase either an Infiniti QX80, which has an out the door price of $64,272 or an Infiniti QX60 with the premium package, that has an out the door price of $46,142.

After running the numbers, our friends decided to go with the Infiniti QX60. The difference in purchase price was $18,130 and their monthly payment savings is about $270.

Our friends decided to invest the $18,130 into an investment which they anticipate may earn a hypothetical 6% rate of return. In addition, for the first five years, they have decided to invest the money they would have otherwise spent in additional fuel, insurance and maintenance on the more expensive car into the same investment. If the investment earns a 6% per year, after five years their balance could be expected to grow to nearly $31,320—enough to make a significant down payment on another QX60.

After repeating this cay buying process every 5 years, after 20 years of driving, their account could potentially be worth in excess of $204,000.

Want to see an even more extreme version and figure out how to save a lot of money? Here’s the way. First, buy used. New cars cost far more to maintain than a used one. Second, drive your used car for a long time. Yes, a new car buyer can get a great value if he drives his car for a decade plus. But older cars also save money on insurance and registration costs. Furthermore, there is no urgent need to fix that dent on the 10 year old car.

So just how much can you save? Check this out.

Scenario 2 – Buying a New Car vs. Buying Used 

One of our friends buys $35,000 Toyota Highlander.  They drive it around for three years, then sell it for $20,000 and repeats this process.  By buying new, they will pay more in sales taxes, registration fees, insurance, possibly maintenance, and most likely finance charges.  Let’s estimate their total cost of ownership at $9,000 per year. Another friend of ours says you know what, I am going to buy a $10,000 used Jeep Grand Cherokee with 75,000 miles and drive it until it can’t go anymore.  So they buy it, drive it until it dies after 10 years and then they buy another one.

They paid cash for it (no sales tax), didn’t fix any of the little things, and paid minimal registration fees and insurance (liability only)  We estimate their cost of ownership at $3,000 per year.

After 30 years, what is the difference between spending $9,000 a year on their getting around town versus $3,000? Invest the difference at 6% and you’ll get $474,000.  Yes, you read that correctly.  Is driving a new car worth $475,000 to you?  Think about doing this with 2 cars? That close to $1mln!

I think we call can agree that you car buying decision can either drive you to or from wealth. Let me know if you need some additional and practical car buying tips.

Ask yourself, which financial direction is your car taking you?