Car Ownership — Keeping the Second Largest Household Expense in Line

If your spouse was the member of the household who handled all issues pertaining to car ownership, everything from purchasing decisions to scheduling and handling maintenance, taking over this job as a widow can seem daunting. I’ll give you some help with that today and in future posts.

In fact, cars are an oft-neglected piece of the puzzle in personal financial affairs, so even if you have been handling your own purchase and maintenance decisions, reading this post could save you thousands of dollars going forward.

You may not have thought about your vehicle as a major issue in your personal finances, but according to statistics, auto expenses are the second biggest component of household budgets. Roughly one dollar out of every six gets spent on this category, so it warrants more attention.

I did a quick check on what a typical car costs these days. I found in Canada, the average car price in 2015 (the most current year with firm data) was about $27,500 and $40,000 for a truck. In the U.S. the average was $33.500, combining cars and trucks, so the numbers are comparable allowing for variances in currencies.

The point is, that even buying an average vehicle costs a big chunk of change.

Add in the ancillary costs of insurance and maintenance, and the cost of ownership climbs higher. Also factor in that cars depreciate every year, eventually becoming worthless. On average, your new ride depreciates about 20% as soon as you drive it off the lot and about 15% a year on a declining scale basis after that.

Here’s the bottom line: Vehicles are a money pit. In your lifetime, you will pour a PILE of money into them. They’re an asset that almost always becomes worthless over time. Perhaps that will change when the day comes that we’re all sharing driverless cars, but until then it makes sense to put some thought and effort into managing this sink hole of money as best you can. Doing so will free up cash both now and going forward that you can put towards other financial goals.

How To Lower the Cost of Buying A Car

First and foremost, think of your car in more utilitarian terms. Auto manufacturers and lenders spend a lot of advertising dollars convincing us that we NEED premium automobiles. They convince us our cars are supposed to be an extension of “who we are” and our social status (or the status we aspire to have). Buying into this sales pitch causes people to purchase cars beyond what they can afford and need. Don’t fall into that trap.

Along the same line, don’t think you need to buy a new vehicle. Remember, a new car loses 20% of its valuation the minute you take it home. Today, it’s easier than ever to find reliable used vehicles in great condition. This is because of improvements in quality and technology, and because people tend to own their cars for only a few years before trading them in. If you’re concerned about buying a lemon, there are many resources you can use to do homework on which makes and models tend to be more reliable used vehicles. Two of my favourites are Consumer Reports and Edmunds.

Drive your car for more years. Don’t get trapped by the flawed concept of thinking you have to buy a new set of wheels as soon as you’ve finished paying for your current one. If you’ve been used to making a monthly payment, channel the same payment amount into a separate savings account when you’ve finished paying off your car. Drive your car for a few more years. Then, even with a lower (or non-existent) trade-in value, you’ll have saved enough money to put a good down payment on your next car (more on this below).

Shop around. Car dealers are competitive. After you’ve determined the make and model that best suits your needs and the amount of money you’re willing to pay, contact several dealers and ask them to sharpen their pencil and give you their best deal. If you’re nervous about negotiating with a sales person face to face, today most dealers have a website and a salesperson assigned to handle inquiries that come in through the site. You can email the website’s sales contact with your criteria and let them come back to you with their best offer. If you can make your purchase with cash,  you will definitely be in the proverbial driver’s seat when it comes to negotiating.

If you can’t purchase your vehicle with cash, beware of spreading your auto loan over too many years just to get lower payments. I generally suggest keeping the term to 4 years. Sure, your payments will be lowered by extending the term, but your cost of the car increases dramatically by doing so. You also risk becoming “upside down” or “underwater” on your loan, which means you owe more than the car is worth.

Likewise, get the lowest interest rate you can. Your interest rate is going to depend on a few variables, not the least of which is your credit rating. Depending on the circumstances, you may be able to get a lower rate through the dealer’s financing arm or through your bank you. Compare your options and get the lowest interest rate you can.

For examples of how the interest rate and the term length of your loan impact the purchase cost, see my examples in the Small Change section.

The 20/4/10 Rule

Here is a simple framework to consider when looking at your overall vehicle costs. Use the 20/4/10 rule:

Put at least 20% of the cost of your vehicle down in either trade-in value or with a cash payment.

If you must finance the purchase, use a term of no more than 4 years.

Keep your total auto expenses in your budget to 10% of your gross income or less. For example, if your annual income is $50,000, you should be spending no more than $5000/year or about $400/month on your car payment, insurance and average monthly maintenance costs. If you’re spending more than 10%, you should consider switching to a cheaper vehicle. Freeing up the excess cash will give you more room to maneuver financially and you’ll probably find you don’t actually miss the expensive vehicle anyway.

Owning a car is a necessity for most people but don’t let the cost of ownership take more of your money than necessary. Keeping this category of your budget under control will give you greater flexibility to use your money for your other financial goals.

Check in soon to the Small Change posts for more tips on how to save money on other automotive expenses such as maintenance and insurance.

Photo Credit: Relive Media.co.uk on Unsplash