By Dr. James M. Dahle, WCI Founder
I was involved in an interesting chat on Bogleheads a while back. There was a new attending who had a $12,000 car loan at 5% he was considering paying off. I told him this:
Quit buying cars on credit. Pay this one off ASAP and then keep putting the payments into a “car account.” When it comes time to buy your next one, you can use cash. There's no reason for anyone, much less a physician, to buy a car on credit.
Another poster responded:
I disagree with the “no reason for anyone. . . to buy a car on credit” advice. Rates are currently low enough that some people could get a car loan, pay a relatively small amount in interest for the car, but end up saving much more come mortgage time because they were smart enough to build credit history. Since the OP [original poster] has no student loans, he probably has no other installment accounts, so the car loan is probably benefiting his credit score.
In response, I came up with. . .
15 Reasons to Quit Buying Cars on Credit
#1 You Buy Too Expensive of a Car
Basic transportation is available very cheaply. You can get a 10-year-old economical commuter for less than $5K. The availability of credit encourages too much consumption.
#2 Interest Costs
Given that cash-equivalent investments are paying 1% or worse these days, even financing at 2% or 3% is costing you something, especially after-tax.
#3 Finance Charges
Cash buyers don't pay them.
#4 Smaller Selection of Cars to Buy From
Guess what? If you want to come buy my car I'm not going to finance it nor wait while you dink around with a credit union. You better have cold hard cash. So that leaves you to go deal with those who are willing to either finance it or mess around with whoever you're going to finance it through. That's fewer cars to choose from.
#5 Higher Price
On the same reasoning as above, you can get a great deal from me if you wave twenty $100 bills in front of my nose. If you have to go down to Low Book Sales down the street, you're going to pay more.
#6 Credit Scores Are Stupid
A good credit score is so easy to get without doing dumb financial things that it is no reason to take on debt. How about buying your gas on a credit card and paying it off at the end of each month? That'll give you a credit score you can get the best mortgage rates with after a year or two. Not enough credit lines? Get two cards and alternate them. Too many of us worry about our credit scores anyway. I hope to never need mine again.
#7 Cash Flow Constrained
So you decide to borrow the money to buy your car so you can leave your cash invested. Guess what? You still have to service the debt. You've got to come up with a few hundred bucks a month. If your income drops or another opportunity comes up or whatever, that cash flow isn't available. It's best to have low fixed expenses and high variable expenses. Buying things on credit reverses that.
#8 Living on Credit Mindset
Cash, not credit for ANY mode of transportation.
If you finance your car, why not your TV, and your furniture, and your house, and your vacation and your kid's college and borrow from your 401(k), etc., etc., etc.
#9 Screw-Ups
One missed payment not only hurts your credit score but also tacks on additional fees. It might not even be your fault. Maybe your employer sent the paychecks out a day late.
#10 The Satisfaction of Living Without Debt
You don't get to call in and scream “I'm debt-free!” on the Dave Ramsey Show. Seriously though, talk to someone who has paid off their mortgage and ask if they'd take out another mortgage on the home at a very low rate. Most won't because it is so satisfying to live without debt in this world.
#11 Insurance Costs
If you own it you can go liability only. The bank wants you to fully insure it. And a more expensive car has higher insurance too. That cheap beater you could have paid cash for is dirt cheap to insure.
#12 Registration Fees
More expensive cars (the kind you go into debt for) cost more to register each year.
#13 Sales Tax
Same drill. Paying cash encourages you to buy less. Less car, less tax.
#14 Cars Depreciate
It's one thing to buy a house that you expect to keep up with inflation on credit. The longer you wait to buy a car (while you save the money) the cheaper that car gets. In fact, the terms on auto loans are getting so long these days (5-8 years is not uncommon) that many buyers actually find themselves upside down on their loan.
#15 Leverage Goes Both Ways
Many argue that they prefer to keep low-interest loans and invest and hopefully earn on the spread. It's great when it works for you. But it works both ways. Here's what Warren Buffett says about it:
By being so cautious in respect to leverage, we penalize our returns by a minor amount. Having loads of liquidity, though, lets us sleep well. Moreover, during the episodes of financial chaos that occasionally erupt in our economy, we will be equipped both financially and emotionally to play offense while others scramble for survival. That’s what allowed us to invest $15.6 billion in 25 days of panic following the Lehman bankruptcy in 2008.
Now I'm not a Dave Ramsey-esque extreme anti-debter. I do understand that forgoing 401(k) contributions to pay off your 0.9% student loans might not be that wise. But far too many people who plan on investing the money they would have used to pay down loans or buy a car never get around to it. It's a behavioral finance thing, and it's an easy trap to fall into.
If those 15 reasons aren't enough to convince you, feel free to buy your cars on credit. There are dumber financial things that most Americans do every day. But for a physician, who likely makes $10K-$30K a month, to have to take out a loan for a car, is what I call a negative status symbol. It tells me he has no idea how to manage money. He should be able to save up for an average used car in the same amount of time it takes to shop around to buy one.
What do you think? When is it okay to buy a car on credit and when is it folly? Comment below!
The issue reminds me of all those behavior aspects of personal finance we potentially overlook. Yes, one might argue that “on paper” a low interest car loan wins out, but as you point out, there are so many other factors. It is similar to the common debate of 15 vs. 30 year mortgage. 30 year might better with investing what would otherwise go into P/I (compared to higher savings rate after a 15 year is paid off), but the shorter loan with higher monthly payment may encourage someone to not buy too much house, achieve being debt free sooner, etc.
Amen, BSM!
It’s also the idea of “should I pay off a loan, or invest”. I always struggle with that. That’s why I put a down payment and financed the Kia. Why would I waste (yes, waste) my hard earned money into a depreciating asset? I would much rather just finance it at a lower rate, have monthly payments, pay more at times if I feel like it – and take the extra savings into a cash flowing asset such as real estate.
WRT 15 vs 30yr mortgage. I’m bullish – I would generally never side with the 15-yr. I want to have that extra money in my control, with a 30 yr mortgage. I could still pay off the house in 15 yrs if I wanted. Key words: *if I WANT*.
So – my take home: don’t spend $30k+ all at once on a car. Finance it at low interest, put the rest of the money towards something useful like your business, kids’ education, appreciating asset. Pay off the car early, but only if you want to.
Did it work? Are you a financially independent multimillionaire? What were the results if this approach of yours to money?
Of course I’m not a multi-millionaire. I never wrote anywhere that that was my goal. Like others on this blog, I’m just saying that it’s not fair to make blanket statements like “people that finance their cars don’t understand money” or stuff to that effect. No – I’m not a multi-millionaire, but I am focusing my earned income into a real estate portfolio so that can eventually achieve financial independence, so that I can retire on time. I don’t trust the stock market anymore, so I am doing my best in pulling my money out in a smart manner.
I don’t know if I’ll be able to retire before 65 since I finished residency at 42. But that’s not my point. I like Scott’s input, the formal stock broker. He has increased his net worth dramatically, and he still finances cars once in a while. No, financing his cars is not the reason that he has increased his net worth. His net worth has increased, because he decided to use that extra cash to invest in appreciating assets, as opposed to a car.
WCI – I am not saying we should all finance new fancy cars. But if I buy a car every 13-15 years, I don’t have to feel any guilt in buying a new one, with a tax benefit, electric, financed at very low interest. For those that like cars every few years – that’s a totally different scenario.
I think it’s important for someone to see that though, although I apologize for using you personally as an example. I meet lots of people who think carrying debt and investing is the key to building wealth, but when I actually meet wealthy people, very few of them followed that path. Most paid off their debt much faster than you would expect WHILE saving and investing.
So when people read two opinions on this page, I think it’s probably smart for them to consider the sources of those opinions. On this subject, frankly I think more weight should be given to the opinion of someone who’s “been there and done that” rather than someone who hasn’t. It kind of reminds me of this famous Bogleheads forum thread where the OP sounded so smart, then proceeded to financially blow up in slow motion over the next year:
https://www.bogleheads.org/forum/viewtopic.php?t=5934
Yes, it sounds smart. Yes, the math looks fine. But in the end, it typically doesn’t work out very well.
I took a 36 month 0.9% financing offer for my Civic, and have no regrets about doing so. This is also not an unusual/rare deal – I know a few other people with the same (Honda regularly offers this for particular models – I would imagine other manufacturer’s do too). The interest rate in my saving’s account is higher than that – I don’t see why you would refuse to take a loan at 0.9% when offered to you. There were no additional fees separate from the interest alone. I don’t have more auto insurance than I would have otherwise. So yes, I do think there are times where it’s fine to finance a car (and yes, I did have enough cash on hand I could have easily bought the car cash – but I will happily take a 0.9% loan instead). I get no satisfaction from saying I’m “debt free”, so that’s not really a benefit. So, while I don’t really disagree with most of the general principles you’ve written about, and in fact am in general a big fan of them, it’s going too far to suggest that it’s never reasonable to buy a car on credit.
I didn’t say it was unreasonable…snicker snicker….
But do you really think the arbitrage between 0% and what you earned on ….let’s see what a civic costs these days…$15-20K or so over 3 years really made a difference in your financial life, enough to justify the additional hassle?
You going to buy your refrigerator on a 0% deal? A garbage disposal? I mean, you can basically put your entire life on a 0% credit card for a year if you want.
I suppose what I was responding to was the initial statement at the top of the page where you quoted yourself on Boglehead: “There’s no reason for anyone, much less a physician, to buy a car on credit”, and that’s the statement I’m disagreeing with. I’m not saying that buying the car on credit makes or breaks anything – in reality on the 22-23k purchase (a Civic Si), the difference is probably a few hundred dollars – a small sum, as you rightly suggest. If someone in my exact situation was uncomfortable with debt, or felt it would be somehow stressful / a significant hassle to buy it on credit, I would not fault them for paying cash. But I don’t consider it any meaningful hassle at all – it’s set on autopay, my monthly payment is about $600, and my chequing account never has less than $600 in it. So, given that this extra bill causes me no extra stress and I don’t consider it any extra hassle, why not take the extra few hundred dollars?
Aside from the fact that 0% financing isn’t free (it’s baked into the price of the car) the main reason is behavioral- it gets you to spend more than you otherwise would, buy a car before you otherwise would, to make payments and constrain cash flow you otherwise wouldn’t have to, to buy into the “debt is normal” culture etc.
Look around at all the FI docs you know. How many of them are buying cars on credit? How many of them ever did? Correlation is not causation but…
It can be. In my above comment about getting 0% financing for 5 years, it was the price. Period. I knew what I wanted. I called multiple dealerships. Told them what I wanted. I wasn’t going to hassel. Give me your best price. The car I bought at the dealership I bought from was the same price for a higher trim model. If we were approved for credit (we were) it was 0%. Then there were other companies etc. Or we could use our own.
One just has to be smart about shopping around and doing due diligence
What Adam said. The specific car I wanted and the price agreed on with the dealership (after calling around and visiting multiple dealerships) were set before I decided on paying cash vs financing. I also even specifically offered to pay cash for a lower price before making the final purchase, and was turned down. I would not have gotten a better price by paying cash, and having the financing option did not make me spend more. And to answer your question (although not sure if it was rhetorical), I definitely know several FI docs who have financed their cars before.
Sounds like the docs who say all those drug rep lunches don’t make them prescribe the presented drugs more frequently. Clearly they work in aggregate even if some doctor is magically immune to their effects. Maybe you’re immune to the effects of installment payments, don’t know, but most aren’t and I’d be careful betting you’re not like most.
I don’t know, those free pens always made me bring out the Rx pad and write many more.
I think it’s all about mindset. FI docs are not exactly financing everything – true. However, I consider FI to be making an informed decision for a specific reason. That means that you can’t blanketly say “never finance a car”. It all depends. If you have a bunch of available cash – then yes, don’t finance it. But, if you have a lot of other expected expenses – children, mortgage, retirement planning, building a financial portfolio to reach FI – then yes, get a good deal on a car, get good rates, finance it, pay it off early – if you choose to.
And- WCI – yes, financing does make you spend more than you otherwise would. That’s where the emotional intelligence comes in. I wouldn’t pay $400k for my primary home if there wasn’t financing – nobody would. But there is financing! So – I can look for something more expensive with my 20% down payment. ( I live in California, so $400k doesn’t buy squat). Those that are financially savvy can leverage appropriately to build their wealth – not pay cash for cars. That’s really the only way to build wealth IMHO.
That’s a very unusual definition of financially independent. Most would define it as having enough money to never have to work for money again.
I actually CAN blanketly say “never finance a car” just like you can. Free country and all that.
My point is if you have available cash, then don’t finance it. If you don’t have available cash, buy a car that costs an amount equal to the available cash you have rather than the one you are about to finance.
A house is a bit different for most because they can’t save up for one in a month or three like most docs can with a car. That’s why it is silly for a doc to finance a car or a couch or a garbage disposal. It makes them look broke or desperate or at least ignorant of the principles of behavioral finance.
I disagree that leveraging your life is required to build wealth. In fact, the doctors I see building wealth generally eschew debt. They don’t carry balances on credit cards, they pay off their student loans in a year or two, the pay off their mortgages in 6 or 7 years, and they don’t finance cars at all. Yes, it’s mindset. Yes, it’s because they don’t spend more than they otherwise would if they were financing it.
Prove me wrong. Show me some docs 10 years out of residency with two $50K car loans, a million dollar mortgage, a couple hundred thousand in student loans, and a bunch of 0% credit cards who are financially independent. They must be out there somewhere, right? Nope. Even those using leverage to build wealth intelligently have a very reasonable mortgage and a limited amount of leverage on a few real estate properties.
Funny – I never thought I would get caught up in a WCI comment section, but here I am! This is kind of fun..lol
When it comes to the Kia – it’s almost as expensive as the Tesla. I successfully talked my husband to NOT buy a Tesla, BTW. Either way – we were upgrading from a 2006 Mazda 3. We could have bought a used car – in that case, it definitely would have been cash But since we buy cars every 13 years, and given that electric is the way to go these days, and given that this particular car had a $10,000 tax credit – my guilt of buying/financing a brand new car was a little bit eased.
I agree that having multiple car loans is toxic, especially with school debt and ridiculous mortgages. I will be school debt free next year (6 years out), never carry a credit card balance, and have financed multiple cash-flowing income properties. My mortgage will be the last loan I pay off – that is, if I every pay it off. I would rather use the money to invest!
Welcome to the comments! It’s lots of good fun, especially if you don’t take any of it too seriously.
I hope you enjoy the car. One reason why it is so hard to be too dogmatic about anything is the that the truth is that a physician income covers a multitude of financial sins.
Only thing I would add is you often can get 0% financing which I did recently. I was going to pay cash, but then was offered free money for 3 years. That was a no brainer. If a dealership offers that, why not use their money for free? And this was after I negotiated the lowest cash price.
That’s my point in this post, that it isn’t a no-brainer even at 0%. While the math may make sense, the behavioral effects do not.
Although I agree that there is practically no reason for a physics to finance a car, I’m going to show the math on a $30k loan.
Due to incentives this doc is given a 3 year 0% loan. Does this doc take the loan or pay with cash upfront.
According to my math this doc gets an extra $487.45 cents return in invested in a 1.9% high yield savings account.
But wait this doc is likely at the very least paying 24% federal taxes $370.46
The second year this doc arbitrages $305.12 or $231.85 after 24tax
The last year this doc arbitrages $119.31 or $90.68 after 24% federal tax.
Is the extra cash worth it? I guess everyone needs to decide for themselves.
#6 Credit Scores are Dumb + the behavioral finance one-liner explains all of these arguments.
Credit scores are (and the “need” for them) are entirely driven by a multi-billion dollar industry persuading consumers that lifelong indebtedness is perfectly OK. Everyone is doing it, right? I wonder how many of these comments understand exactly how credit scores are calculated and how easy they can be manipulated. Or even the simple fact that there are HUNDREDS of different credit scores with their own biases perfect for endless manipulation.
You earn points solely for doing things that benefit the lenders. Carrying 1/3 balances on credit cards indefinitely, taking out the largest credit lines possible, acquiring the largest mortgage possible, carrying multiple lines of credit (installment loans, credit lines, HELOC, mortgage, multiple car loans). None of which benefits the person trying to become financially secure.
Since I’m basically a cash buyer, my credit score is completely average. God forbid. Yet it’s still perfectly sufficient to have a fixed rate mortgage @ 2.75%. All the other consumer nonsense regarding credit scores is just noise that comes directly from the finance companies marketing playbooks. These conversations always remind me of people talking about “winning at Las Vegas” and “taking money from the casinos”. Right.
Via email:
I was all prepared to post a witty rebuttal to not financing cars…I do like how car posts get everyone riled up and all. If I were you I’d probably put up too many car posts just because of the volume of comments cars generate…so anyway
All I do is take my extra money above emergency fund each month and drop it on whatever gets me the best return. Unfortunately I know this doesn’t work for most of my colleagues. Currently we have a Honda Odyssey at 0.9% on a 3 year note. Thanks to a Honda owners forum I was able to know the bottom price (large excel spreadsheet from across the country) and haggle via email to get both the financing and best price. Sure I don’t have student loans and I don’t plan on taking out car loans above inflation in the future. I just don’t see it as black and white.
The first credit car was issue in 1950. It was the beginning of the mass conditioning of the modern day slavery without the whip.
With the exception of the small percentage of the population who has the financial knowledge to leverage CREDIT and make a living, the rest of the population should buy everything with CASH.
Since this site is catered to DOCTORS who starting salary is typically 2 to 3 times the median income of the population, there is absolutely nothing including the primary home can not be buy with CASH.
For 90 to 95 percents of the population, if you HAVE to use CREDIT for a purchase for personal consumption, it is a red flag that you are living above your mean regardless of your INCOME.
I agree.
We are almost done paying off the family Mazda and I am never going to get another car loan again. We live in Chicago and are planning to move back to the southeast so we are in the market for another car.
I have started to look at used trucks in the $4-6k range and it is slim pickings. The cost of pickups has skyrocketed with newer “stock” models over $40k! Insanity. Luckily I still have a few months and hopefully can find a used Tacoma or something that will last a while.
Paid cash for my Odyssey last year. First vehicle purchased with cash and I’m never going back!
Feels good huh.
Wow! What an active website! And I agree with almost all of it!!!
The only part that caught my eye was the comment… “It tells me he has no idea how to manage money.”
Such a pejorative statement, that!!!
While I agree with most of the suggestions on this site, I disagree that it is “always best” to pay cash.
I believe that it is “usually” best to pay cash!!!
I will mention a personal example.
In July 2002 I purchased a used (1996) 18.5 ft Alumacraft with a 135 Mercury on the back of it to take my kids tubing and waterskiing and fishing (new $21k, I paid $7500). I needed to upgrade my towing vehicle.
In August 2002, with the economy in the tank, they were closing out the 2002 Suburban inventory at a local Chevy dealership. I had a $2500 discount from the GM card that I was about to cut up, and the price was the same whether I paid cash or took the 0% 5 year loan. I took the loan (and I had over $100k in my savings account at the time). PS and by the way, I bought the low end LS model, and never considered the LT higher end model with leather and sunroof. My radiologist friend bought that one the next week. I still own the LS Suburban at 18 years old and 180k miles on it.
How did everything turn out, you might ask?
I would say pretty okay. I had to go back to my savings account checkbook to figure this out, but that was pretty easy. I might add that this was a conscious event, based upon my previous financial education based upon reading John Bogle’s books, Andrew Tobias’s book, and numerous other financial educational treatises.
I sent a check to Vanguard on 3/7/2003 for the $30k that I took out on the loan (I know, I suffer from analysis paralysis!). I put it into the Total Stock Market Index. (Wilshire 5000).
Results…calculated at DQYDJ (with reinvested dividends): after 5 years my 30k turned into $42,968.
As of 1/25/2020, that $30k is now $148,743. I have never taken a nickel out of that account.
The take away message is self-discipline, which I assume most physicians can muster, as they have put off much in the years that it took to complete their education and training.
To All…this is a great place to learn about personal finance!!!
All My Best!!!
PS. Just so you know where I’m coming from. I’m a general internist and joined a small practice in 1987. Starting salary $50k (yes, less than my wife (surgical nurse) and I (resident) had made the year before). Maximum draw prior to transitioning to employed physician in 2010 was $132k, plus small quarterly bonuses based on production. FYI.
Why wasn’t all that cash already invested? Why did you need to buy a truck to convince yourself to invest your cash? I think I would have paid for the car with cash and put the other $75K in the market and come out even better! 🙂
At any rate, yes, leverage works, but it works both ways. Change the date to June 2008 or March 2000 and let me know how that move worked out.
Hi!!!
Yes, I agree that it worked out for me in my particular timeframe. And thank you for your comments… sincerely.
Why wasn’t that cash already invested? The $100k was a total of my vehicle savings fund and my emergency fund, which as you have pointed out, is a pretty important thing to have around. Especially at that time with 3 young children. And of course I was saving some money for the cash purchase of a new vehicle, which would have left me with $70k in my emergency fund ( I know-I may be conservative). I agree that leverage can go both ways.
All My Best!!!
TJ
Hi WCI,
I think #15 is the most pertinent here. If someone invests wisely, they can expect a ~7% ROI each year. If a car loan is ~5%, then they gain 2% of their money by taking out a loan instead of paying cash. The same goes for student loans. You advice is rather sophomoric.
At least I know how to spell “your” and know the difference between “of” and “on”. Sophomoric indeed.
If you can’t see the difference between a guaranteed 5% return and a possible 7% return, I’m not sure I can help you much. But go ahead and leverage up your car loans and student loans and get rich using that strategy. I’m sure it’ll work great.
Financing a car is almost an automatic step… very few people pay cash for a car. Yet this is just one of many times we shouldn’t go with the flow… thank you very much for sharing these top reasons why we need to pay cash for cars…
Thanks for these https://www.whitecoatinvestor.com/quit-buying-cars-on-credit-15-reasons-to-pay-cash/ tips on credid)
I think the decision to buy a car financed vs cash must be considered on an individual basis. Personally, I owned several used cars in early years, paid for in cash, and ended up quite sorry. I was buying other people’s problems, so to speak, with high repairs, etc. My current car is a Kia Sportage purchased with 1% financing in 2008. Yep, 2008! It’s still in great condition, garage kept, well cared for – and since I paid it off early, it cost me very little in interest. My point is that if you shop within a pre-determined budget and refuse to be upsold on the lot, financing a new car over a used car can be a good move – especially if you plan to keep that car until the wheels fall off. I’ve been driving my Kia for 14 years now, 12 of those years for “free” (no car payments). I’m not sure what I’ll do when it finally does die, but a car with a shiny new warranty appeals to me far more than rolling the dice on someone else’s old jalopy.
The finance vs not finance decision is almost completely separate from the buy new vs buy used decision for most of my audience. I mean, most docs should be able to save up enough money for a Kia Sportage in 2 months.
But you’re right that a new car kept for a long time is not much different from a used car kept from a long time. The thing to avoid (at least if you care about the financial aspect) is rotating new cars every 2 or 3 years.