January 28, 2016
Last year was a record for automakers. Nearly 17.5 million new cars were sold in America last year, surpassing the previous high set all the way back in 2000.
While plenty of people see that as a solid sign that the U.S. economy is doing well, I am worried by how all those purchases are being financed.
The average term for a new car loan was 67 months. That’s more than 5.5 years. Even more troubling is the fact that in the third quarter of 2015 more than 27% of new car loans had a length between 73-84 months, according to Experian Automotive.
People, those long loan terms are extremely stupid. Yes, I said stupid. Listen to me (and not the fast talking person at the auto dealership): any loan term over three years is a signal you are being snookered.
Let’s talk facts:
1. The longer the loan period, the longer you will be paying interest.
2. A car is a lousy investment. You will never be able to sell it for a price near what it cost you to purchase. That’s what is called a depreciating asset.
3. It makes no sense to pay more interest on a loan for a depreciating asset.
Don’t start with the “Oh, Suze” moans that I don’t get it. I am fine with you buying a car. But let’s be honest. All you need is a car that is reliable and that is affordable. My definition of affordable:
If you can’t pay 100% cash, choose a car that you can pay off with a loan that lasts no longer than 36 months.
Anything longer is a signal you are buying a car that is too expensive for your financial health. Just keep reducing your target purchase price for a car until it settles into a zone where you can handle the payments on a 36-month loan.
Then in month 37 you will be so happy you followed my advice. Why? Because you will now have a completely paid off car. Whatever you were paying on the loan--$150 a month, $300 a month, $400 a month-is now money you can use for other important financial goals.
Let’s say your payment is $300 a month. If you have a 67-month loan rather than a 36-month loan that’s an extra 31 payments you will make, totaling an extra $9,300. Can you honestly tell me you don’t have a more important use for that $9,300? Invest that $300 for 31 months in a Roth IRA that grows at an annualized 6 percent and you will have more than $10,000 at the end of the 31 months. Even if you never add another penny to that pot, but let it keep growing, in 25 years it could be worth more than $43,000.
I bet if you added $43,000+ to the cost of a car you are going to finance with a long loan you would be appalled at what you were about to do.
In 2016, if you are going to buy a car, drive the best deal by choosing a loan no longer than 36 months.
Answer Yes or No to the follow statements.
I pay all my credit card bills in full each month.
I have an eight-month emergency savings fund separate from my checking or other bank accounts.
The car I am driving was paid for with cash, or a loan that was no more than three years, and I sure didn’t lease!
I am contributing at least 10% of my gross salary to a retirement plan at work, or I am saving at least that much in an IRA and/or regular taxable account.
I have a long-term asset allocation plan for my retirement investments, and once a year I check to see if I need to do any rebalancing to stay on target with my allocation goals.
I have term life insurance to provide protection to those who are dependent on my income.
I have a will, a trust, an advance directive (living will), and have appointed someone to be my health care proxy.
So how did you do?
If you answered yes to every item, congratulations. If you are working on improving on a few items, I say congratulations as well.
As long as you are comitted to truly creating financial security, I applaud you. If that means you are paying down your credit card balances, or are building up your emergency fun with automated payments, that’s more than fine. You are on your way!
But if you found yourself saying No to any of those questions, and you’re not working on moving to Yes, then I want you to stand in your truth. No matter how good you feel, you have some work to do before you can honestly know what you are on solid financial ground.