Chapter 11 - Automobiles

Transportation is a fundamental human need, and one that can get very expensive. This chapter will discuss a variety of ways to obtain an automobile, and how to avoid overpaying for your vehicle.

There are two ways to acquire an automobile. The first option is to purchase the vehicle. If you buy the vehicle, then you become its owner. This means you have full rights to use it however you wish. It also means that it becomes an asset on your balance sheet. Equity is the market value of the car (what you could sell it for) minus the amount you owe on it. If you could sell it for $20,000 but you still owe $8,000 on the loan, then you have $12,000 in equity in the vehicle. Any amount that you have financed represents a reduction in your vehicle equity until the loan is paid off.

Alternatively, you may lease an automobile. Under a leasing arrangement, you make payments to the leasing company for the right to use the car, but you never actually own the car yourself. In this way, leasing is like renting an apartment - you sign a lease and take possession of the car. Everything in the car is yours, and you are expected to maintain the car while you are leasing it. The car itself remains the property of the leasing company. You do not own it and have no equity.

Leasing is a form of financing in which you only have to pay for the depreciation of the car and never have any vehicle equity. You will find that a car lease agreement will generally have lower monthly payments compared to the car loan you would have to take out to buy the car outright. This is because you are only buying the "use" of the car instead of buying the entire car. The ability of a lease to provide you with a more expensive car for the same payment. This is why most luxury vehicles are leased instead of purchased.

You can think of leasing a car like you would renting an apartment. You make payments each month, but never own the car outright and at the end of the lease you have to return the car to the dealer. This can make the monthly payments a little lower, but it also means that you will never be able to live without a car payment. If you buy a car, then you can keep driving it after you have finished paying for it.

How do you decide which car is best for you? There are many factors to consider.

1. Affordability. The price of cars can vary dramatically. Knowing how much you can afford before you begin shopping can save you from falling in love with a car you can’t afford! How much car you can afford will depend on your down payment and your credit worthiness.

2. Your down payment will reduce the amount you must borrow and will increase how much car you can afford. The larger your down payment, the less you will have to borrow to buy the car, and the more you can afford to pay for a car.

3. Your credit worthiness will determine what interest rate you can receive. The worse your credit, the higher the interest rate on your loan. This in turn reduces how much you can afford to pay for a car.

4. What you do with your present car if you have one will also affect how much you can afford. Trading in your car is a quick and easy way to get rid of it. On average trade in values tend to be lower than selling the vehicle yourself. Selling your vehicle directly to another person using a market such as Facebook Marketplace and Craigslist can get the most value for your car. This approach costs more time and effort on your part, but can score you the most money back on your old car.

5. The cost of a vehicle is comprised of carrying and operating costs. Carrying costs are costs that you incur on the vehicle regardless of whether you drive it or not. These include the car payment, insurance, and depreciation losses. Operating costs increase or decrease depending on how much you use the car. These expenses include fuel and maintenance costs. Luxury brands such as BMW and Mercedes often have very expensive parts that you must buy to repair them. Sports cars and trucks cost substantially more to insure each month than do compact cars. Before you pick a vehicle, go online and see how frequently the vehicle you are considering needs repairs, and what the costs of those repairs are.

6. How much you can afford is also affected by whether you buy new or used. There are advantages and disadvantages to buying both new and used vehicles. Your costs (both operating and carrying) will be substantially different if you purchase a used vehicle instead of a new vehicle. New cars have high depreciation and insurance costs but relatively low maintenance costs. Used cars have much lower depreciation and insurance costs, but can cost more in routine maintenance and repairs. Overall, studies have shown that the cost of depreciation on a new car is far greater than the cost of repairs on a used car.

7. The last factor we will directly discuss is your choice of where to purchase your car. Will you buy it online, from a franchised dealership, a superstore, an independent used car lot, or from a private individual? Going to a dealership will get you personal service, but the price of the car is likely to be the highest of any option. Buying from private individuals can get you the best price on a car, but it requires a lot more work and there are also potential risks of doing so.

Negotiating the purchase

Salesperson at dealerships often want to start the purchase process by discussing the monthly payment you can afford. This makes sense since your payment determines which cars you can buy. However logical it feels, though, this is a mistake that you should avoid. Be very careful NOT to discuss the monthly payment you can afford. The reason for this is that the payment on the loan can be easily manipulated by changing the interest rate, amount borrowed, or the term of the loan. Focusing on the payment allows the dealership to hide the true cost of the car from you.

Instead, use your calculator and our math skill to determine the maximum sales price you can afford. Then shop for a car that fits that price range. It also never hurts to take your financial calculator with you to the negotiating table either. This will give you a chance to analyze options on the fly. Even if you don't do any real analysis, just having a calculator and looking like you know how to use it can help you get a better deal!

Always leave yourself the option to walk away from any deal. This will be easier to do if you remember that no car is unique. The manufacturer builds millions of copies of each model of car. The one you are looking at is not unique. It is not even rare, despite what the salesperson might tell you. Don’t hesitate to go to the dealership down the street if you are feeling like you are being pressured. That dealership will likely have (or can quickly get) the exact same car. Above all, don’t let yourself feel pressured, confused, nervous, or overwhelmed. If you start to experience any of these emotions, WALK AWAY from the deal immediately. You can always go somewhere else and find another car. It's better to not be pressures and focus on getting a good price.

Insert Lecture 7 from the course pack!

Definitions:

Equity: the amount ownership you have in an asset

Leasing arrangement: similar to a long term rental plan with equal payments each month. A form of financing in which you only have to pay for the depreciation of the car and never have any equity

Rent: short term borrowing of a car, mostly paying for convenience

Affordability: being able to pay for the agreement while not breaking the budget

Down payment: an initial payment to secure a loan and reduce the amount to be borrowed

Trading: giving your car to the dealership for means of receiving another

Carrying costs: generally fixed costs relating to the car itself and not usage including the car payment, insurance and depreciation

Operating costs: variable costs relating to the usage, or operating, of the car including gas, maintenance and repairs