While all of us wish that the country could start to return back to normal, the coronavirus continues to have an impact not only on the automotive market but the larger economy. Recently, I’ve had several conversations with car buyers who planned to pay cash for their purchase, thinking it was the safer play. Here is why this may not be the case.
The classic bit of financial advice is the mantra of “always pay cash and never carry debt.” On the surface, this can be valuable to folks who have trouble managing their budgets, yet it often this results in an approach that is both unhelpful and impractical.
The question of paying cash for a car or taking a loan is often a case-by-case situation, and the answer depends on a number of factors. In the past few weeks, I have had repeated conversations with various car buyers that start with something like this:
“We have the cash to buy this car. Should we just do that instead of taking the loan?”
The larger context here is that these folks are buying cars ranging from $25,000 to $50,000 and beyond. They are not buying inexpensive rides from Craigslist. These buyers clearly have a handle on their finances to have upwards of $50,000 in cash at their disposal, and they also have the credit score to qualify for competitive interest rates. Their perspective is that perhaps it’s better to not have the debt should their economic situation change.
While this is really a personal call without a wrong answer, here is the other perspective that I have offered these buyers: in an uncertain economy, no one complains about having too much money in the bank. Therefore, I have generally recommended that these buyers make a sizable down payment to establish some equity — and so that their loan balance is lower than the value of the car — and then keep the remainder in savings, just in case that rainy day comes, when cash is needed quickly.
The reason I say this is because you can always pay a loan off early, usually with no penalty. But once you part with that amount of liquid assets into a depreciating vehicle, you can’t easily put the money back in the bank if the situation arises where you need cash quickly.
Of course, it is certainly possible that some of these folks could part with all that money and still have plenty left over if the need arises, but many of them have preferred the middle ground between financing the whole purchase or just writing the check. The key here is a balance between maintaining your emergency fund while using enough cash to get to a manageable monthly payment.
Let me be clear: I am not advocating that folks in difficult financial situations who are purchasing inexpensive cars take a loan if it’s not necessary. However, for car buyers shopping for moderately priced new or used vehicles who are fortunate enough to have cash on hand for the purchase, it may be worth keeping that money aside.