Advantages & Disadvantages of Paying Cash for a Car

The main appeal of paying cash for a car is that you avoid accumulating additional debt. Nonetheless, there are times when carrying debt may be a better option for people who want to buy a home, bolster their credit rating or build an emergency fund.

Financial Benefits

You own your vehicle outright when you pay cash for it. You wont be subjected to the threat of a bad credit rating or a repossession due to falling behind on car payments made to a lender. Paying cash allows you to avoid monthly interest charges on an auto loan, which would increase the cost of your vehicle throughout the life of the loan. You also keep more money in your budget to save and invest if you're not strapped with a monthly car payment.

Credit and Emergencies

People who are trying to build a good credit history miss the opportunity to do so if they pay cash for their vehicle. Paying a car loan on time each month can improve your credit rating. Consider whether paying cash for a car would leave you short of money for emergencies. One of those emergencies could involve a major repair for your car. Therefore, an auto loan may be a better option if you have to drain your savings account to pay cash for a vehicle.

Mortgages

You could hamper any home-buying plans you have if you pay cash for a car by unwittingly increasing your mortgage costs. Mortgage lenders generally want home buyers to make a down payment that's equal to 20 percent of a home's purchase price. Home buyers who pay less usually have to get private mortgage insurance, or PMI, which allows a lender to recover costs associated with loan defaults. You could pay as much as $1,000 per year for PMI if you put down just 5 percent on a $200,000 loan, according to a July 2010 article published by "Smart Money." Reconsider paying cash for a car if you also intend to buy a home with less than a 20 percent down payment.

Dealerships

You may get an unenthusiastic reception at an auto dealership if you want to pay cash for your car because dealerships make more money from financed purchases. Some salespeople may even try to persuade you to finance or lease your vehicle instead of paying for it outright. Extended warranties, upholstery treatments and other extras are things that car buyers are more likely to purchase if they can spread out the costs through monthly loan payments, according to "New York Times" writer Micheline Maynard. Maynard noted that such extras can account for as much as 75 percent of a dealership's profits.