The other day, I heard on the news over the radio about a study that shows that roughly one third of all car loans taken out are for 7 years or longer. They were of the opinion that this is a sign of a bad economy, but I see this as a sign of many people making dumb financial decisions. If you have to finance a car for 7 years or longer, in my view you are buying too much car for your budget. There are a couple of reasons I see this as a dumb financial decision:
- Cars tend to depreciate rather quickly in value so for most people, as soon as you drive it off the lot, you owe more on the vehicle than it is worth.
- Most people don’t even keep there cars for 7 years or longer, which means you would usually either have to pay more out of pocket to get rid of the loan on the car you no longer have, or you could keep making payments on a car that you no longer own.
In my mind, neither of these is a wise option. I know a lot of people who make very good money, but do not know how or don’t pay attention to how there money is spent so they end up struggling financially. I have clients that make 5 times as much as I do that are living paycheck to paycheck because they haven’t taken control of how they spend money. In our society, no matter how much money you make, it is easy to outspend your income.
Last year, I bought a car for cash, but let’s say instead that I took out a 7 year loan to buy it. Let’s assume I budgeted 800 per month for the car payment. (67,200 over the life of the loan) I could get a lot of car for that amount of money. Instead, I paid a fraction of that amount for a used Toyota Prius with low miles. With the rest of that money I can finish paying off my wife’s masters degree, finance our 3 week trip to Europe next summer and put the balance towards retirement savings.
If you can afford a great luxury car, then great, go buy it. But to me, financing a car for 7 years or more is a good sign you are buying more car than you can afford.