Major purchases, such as a new car or home, often demand your time and research to ensure you are making a sound investment decision. The decision to use cash for your purchase instead of applying for a loan has pros and cons when buying a home, but when purchasing a new car, very few drawbacks exist for buying a car in full versus making monthly payments.
No Interest Payments
Borrowing money is never free. Lenders solicit borrowers with the hope of attracting a qualified borrower who can afford to repay a loan with interest. The amount you pay in interest can equal twice, sometimes three times, the value of a car depending on your credit rating. If you pay for a car in full, you make zero interest payments on your car. The price you negotiate with the dealer is the final price on the car.
No Credit Exposure
Many people hope for perfect credit to get the best interest rates and terms on loans. Paying for your car in full requires no credit check. The downside to not having a credit risk is that you also don't have the opportunity to build your credit score as you make timely payments on your vehicle. Payment history is the largest factor influencing your credit score each month.
However, if you experience a financial emergency and find yourself struggling to pay your monthly bills, a car payment will not be on your list of worries if you pay for the vehicle in full. Falling behind on car payments due to financial hardship can damage your credit score if payments are made later than 30 days beyond the due date.
Mitigated Loss in Equity
Cars are often not considered assets because they depreciate very quickly. With added interest and fees on a car loan, you can end up "upside-down" on a car loan as soon as you drive off the lot. Paying in cash helps mitigate your loss in equity when you purchase a car. You can't prevent the value of the car from depreciating, but paying only once for the car means you are not losing money that could be used towards keeping the vehicle in top condition.
Budget Free
When you pay for a car in full, there is no payment to budget around. Depending on the type of car you purchase, your car payment can be costly. The money you would apply towards a car payment can be used towards investments, emergency savings or leisure activities. Lenders generally check your debt-to-income ratio to determine whether you can afford to pay for the car, but when it is paid in full your income and household budget are not a consideration.
Considerations
Paying for a car in full to free up your monthly budget is a good idea if the money to pay for the car is not coming from an emergency savings account or investment. Investment accounts such as 401k and IRAs may have substantial cash to cover the costs of your new vehicle, but tax penalties can be costly. Consider where the money is coming from before making a large purchase that could cause a significant financial setback.
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