Sunday, February 21, 2010

dropping the weight of consumer debt

I've held a dirty little secret for the past 4 years and I am going to come forward with it now.

Consumer debt is probably one of the worst items that can appear on the balance sheet of someone trying to grow their net worth and achieve financial freedom. Money that was borrowed to purchase a car, vacation, furniture, or some other asset other than an investment or a home; and the interest associated with it will drag you down hard. The problem is that when it comes to vehicles, it is almost unavoidable to take on consumer debt unless one pays cash upfront which is not really wise considering the time-value of money. If you can find a very low financing rate I would argue that you are better off going that route instead of paying cash because of what you could do with that money investment-wise in the meantime.

In early 2006 we purchased a vehicle and financed it over 60 months. This has been a drag on our net worth and monthly cash flow ever since. The problem with vehicles is that they are essentially money pits and whether you buy them with cash, finance or lease them you can't really win. We've made the decision to now use some extra funds to pay off the vehicle before it is due in order to save the monthly payment's impact on our cash flow while my wife enters maternity leave next month. This move will not save us any interest, but it will allow some more flexibility within our budget and create a spike straight to our net worth as that debt line will vanish into thin air.

9 comments:

Amelia said...

I agree that cars are total money pits no matter how you get them. In our family we have one car with a loan circa 2006 (same as yours) and another older car we bought cheap/used that suddenly keeps needing stupidly expensive repairs.

Congratulations on your impending arrival!

Anonymous said...

Why wont there be any interest savings with your early payoff?

MG (moneygardener) said...

As far as I understand interest on car loans is worked into the payments right away and that's why they allow you to pay it off in full at any point. They still get their interest. I could be wrong...

hazzard said...

Buy cheaper cars is another option. You can get nice used cars for very little money. Maybe a Pinto is to your liking? ;o)

Canadian Small Cap said...

In addition to paying your current car down, you should put together a plan that will help you save money for you next car.

I do this. When it is time to buy a car, we usually can purchase it for cash.

Anonymous said...

I saved for my first car and paid cash. Then when I bought it I started making payments on my second car in a savings account so when it died (15 years later!) I could buy the next car with cash. No interest payments except that which was paid to ME for saving.

My rule is to never borrow except for housing.

Debt Elimination - TheFinancialPower said...

If you save your car monthly payments then you can always pay for your car with cash. I had a lease as that was the best because it was deductible from my business, but at the lease end the payout was too high. I saved the lease payments for a year, bought a cheaper car and after 4 years of saving the lease amount, now I can buy a new car for cash. No more interest for the lending company.

MG you are right, when you buy a car the interest is worked into your monthly plan.

Mike said...

Hi MG,

I have just started my own blog and have left you a post @ http://dividendgrowthtracker.blogspot.com/.

Thanks again for all of the great reading and keep up the awesome work.

Home Renovation - Dartex Contracting said...

For my business I have a leased car because that is tax deductible for me and we need a good car. But for personal use I too put aside monthly whatever the amount of my car would be if financed and this way I can buy the car for cash. I am looking now to buy another car and I have found that e-bay sells cars too. I'm not confident enough to try that opportunity yet as I would like to have a drive test before paying.