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Tigerstudent08
LSU Fan
Lakeview
Member since Apr 2007
5776 posts

Have some extra cash saved up thinking about paying off car
Been building my cash back up ever since I bought my house and am trying to figure out what I should do with it. I have a car note with an APR of 3.49% and if I paid it off it would cost $19,880. I also have my mortgage which has an interest rate of 5% which I still owe a lot on considering I am ~1 year into my 30 year mortgage. If you had a spare $40k what would you do?

FYI- I will be using other money for 401K and IRA

I think my options are 1)Payoff the car and put some money towards the mortgage 2)Put it all towards the mortgage since this is my highest interest rate 3)Continue saving in preparation for buying some real estate as an investment in a year or 2 4)Invest in the stock market (would be my least desirable choice from MPOV 5)Blow it on strippers and blow


Ace Midnight
LSU Fan
Between sanity and madness
Member since Dec 2006
70757 posts

re: Have some extra cash saved up thinking about paying off car
I would eliminate the note on a depreciating asset - WITH the caveat that you do not let this drive a decision to turnover the car and get into another note immediately.

If you know yourself and know this is going to happen (i.e. getting into another new car and new car note in short order) - then the long-term best return on the money will likely be paying down the mortgage or buying mutual funds. You can buy mutual funds and add to them in preparation for:

quote:

3)Continue saving in preparation for buying some real estate as an investment in a year or 2


Stay away from:

quote:

)Invest in the stock market (would be my least desirable choice from MPOV


or:

quote:

5)Blow it on strippers and blow


Hope this helps.


Tigerstudent08
LSU Fan
Lakeview
Member since Apr 2007
5776 posts

re: Have some extra cash saved up thinking about paying off car
I am actually very disciplined with my money (my wife calls it being cheap ) especially for being a younger guy (28). I bought the car new about a year and a half ago and don't plan on getting rid of it any time soon. I didn't think of paying it off due to it being a depreciating asset. Very good advice. Thanks


Cold Cous Cous
LSU Fan
Bucktown, La.
Member since Oct 2003
14874 posts

re: Have some extra cash saved up thinking about paying off car
quote:

I didn't think of paying it off due to it being a depreciating asset.

Whether the asset is appreciating or depreciating is literally irrelevant to this calculation.


kennypowers816
LSU Fan
New Orleans
Member since Jan 2010
2431 posts

re: Have some extra cash saved up thinking about paying off car
quote:

I would eliminate the note on a depreciating asset


I'm confused. What does this have to do with anything?


Ace Midnight
LSU Fan
Between sanity and madness
Member since Dec 2006
70757 posts

re: Have some extra cash saved up thinking about paying off car
quote:

I'm confused. What does this have to do with anything?


Because if you're borrowing money on an appreciating asset, your future gains can justify servicing the debt over the life of a loan.

Financing a depreciating asset is dumb (sometimes necessary, but still financially dumb) - you're paying for something, with interest, over time that is never worth what you're paying for it as you go.

Here's an example:

I borrow $50,000 to buy real estate (a lot) in a rapidly expanding, growing area. I take a 10 year note, and pay 5% APR (for simplicity's sake). That's about $530 per month. At the end, all of my scheduled payments total just under $64k, obviously, $14k of that was interest. At 6% appreciation, that property should be worth (with only maintenance, no improvements) about $100k. So, I've made a $36k profit on that loan.

Now - take the other example (what all this has to do with things):

I go to one of them fancy German car dealers. They loan me 50k at 3% for 10 years (somewhat unusual, but 10-year financing is available - I'm trying to get it as close to an apples-to-apples comparison as I can).

That note is going to be about $480 dollars, also for 120 months. I will pay a total of just under $58k. (And even over 6 years, I would pay about $5k in interest of 3% on $50k) - got it? I've paid $58k for a car that is worth, what, $10k to $12k in 10 years? (Or, perhaps as much as $30k in 6, after paying $55k?)

So, I've lost, anywhere from $25k to $40k on that transaction - now - I've got to have a car, but had I paid cash, I would have only lost the actual depreciation (which I at least got the use of) rather than depreciation PLUS interest.


Is it making sense now? Buying these new cars cost MILLIONS in opportunity costs over time. Buying (not every five years, mind you, because the transaction costs eat into that) real estate or other appreciating assets, smartly, with borrowed money MAKES you money over time.

That's the difference between borrowing money for an appreciating asset versus a depreciating one.

This post was edited on 5/16 at 10:47 am


Cold Cous Cous
LSU Fan
Bucktown, La.
Member since Oct 2003
14874 posts

re: Have some extra cash saved up thinking about paying off car
quote:

That's the difference between borrowing money for an appreciating asset versus a depreciating one.

So your theory is that it's better to buy things that increase in value rather than decrease. Great. What does that have to do with which loan he should pay off first?


roguetiger15
LSU Fan
Member since Jan 2013
12210 posts
 Online 

re: Have some extra cash saved up thinking about paying off car
It may be a depreciating asset but if your interest rate is low I would continue to pay it off monthly and build up your credit. You never know when you may have to take out a loan for unforeseen circumstances and need good credit.


dewster
LSU Fan
Chicago
Member since Aug 2006
16368 posts

re: Have some extra cash saved up thinking about paying off car
The type of asset is irrelevant IMO. The car has already been purchased and the debt is already there.

The question is if he/she should pay that debt off now and improve cash flow, invest his money, or make larger payments on a longer term loan.

I'd knock out the car loan and invest what is left over and whatever he saves. Try to save up enough to pay cash for the next car you buy.
This post was edited on 5/16 at 11:02 am


roguetiger15
LSU Fan
Member since Jan 2013
12210 posts
 Online 

re: Have some extra cash saved up thinking about paying off car
What's irrelevant?


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Ace Midnight
LSU Fan
Between sanity and madness
Member since Dec 2006
70757 posts

re: Have some extra cash saved up thinking about paying off car
quote:

So your theory is that it's better to buy things that increase in value rather than decrease. Great. What does that have to do with which loan he should pay off first?


You eliminate the debt securing the depreciating asset. I didn't make this up. This is sound financial decisionmaking. Even if it were 0% APR - that just means you paid too much at purchase - get rid of the debt regardless of the APR. The mortgage interest (aside from being tax deductible) is going to pay you back at some point.

If there were a more dramatic difference in APR (e.g., a credit card bill at 16%, a car note at 9% and a mortgage at 5% - you obviously reduce those in that order), that could tip a short-term or even mid-term decision, but a point or two does not.


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Cold Cous Cous
LSU Fan
Bucktown, La.
Member since Oct 2003
14874 posts

re: Have some extra cash saved up thinking about paying off car
quote:

The question is if he/she should pay that debt off now and improve cash flow, invest his money, or make larger payments on a longer term loan.

ding ding! I'd pay the car off solely for cash flow purposes, and because I think long run that mortgage rate is going to look like a mighty good deal. But given the rates here I don't think there's necessarily a right or wrong decision. (other than hookers/blow, which is never a bad idea).


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Tigerstudent08
LSU Fan
Lakeview
Member since Apr 2007
5776 posts

re: Have some extra cash saved up thinking about paying off car
quote:

if your interest rate is low I would continue to pay it off monthly and build up your credit

This is also a good point. I own a double in Lakeview (live in one side and rent out the other). So far this has worked out great and I could really see myself buying another one in the future if I come across the right deal. Since this is the case, I know I need to have my credit score high (at ~705 now) and my cash flow up. However, I hate having all this cash just sitting there in my account and not doing anything. Now I might be even more confused I think I need to talk to my financial advisor


roguetiger15
LSU Fan
Member since Jan 2013
12210 posts
 Online 

re: Have some extra cash saved up thinking about paying off car
I am a FA. Look into franklin income fund fcisx. It's performed great, very safe and pays a monthly dividend. We use this fund a lot of people that need income but don't want to be in bonds. In your case I would just let it compound monthly.


foshizzle
LSU Fan
Washington DC metro
Member since Mar 2008
40599 posts

re: Have some extra cash saved up thinking about paying off car
quote:

Because if you're borrowing money on an appreciating asset, your future gains can justify servicing the debt over the life of a loan.


Ace, sorry but I believe you're confusing yourself here.

You are of course completely correct that borrowing at a low rate to purchase an asset that appreciates at a higher rate can be a great way to go.

But that only concerns the decision of whether to finance or not. Once you've already done it, whether the asset is appreciating or not is irrelevant to the question of which loan to pay off first.

The only way in which the asset might play a role is that if the loan is secured by the asset and it isn't sufficiently insured for loss or damage. That is a possible justification for focusing on the car note - not because the car depreciates, but because it depreciates faster than the loan amortizes, which means that if the car gets totaled the OP will have to pay off the entire note immediately even though the insurance settlement won't be enough.


Tigerstudent08
LSU Fan
Lakeview
Member since Apr 2007
5776 posts

re: Have some extra cash saved up thinking about paying off car
I owned FCISX for 5+ years and sold it about a year ago in order to put down my 20%. It is a very good income fund (very conservative though) and is a possibility although I can't see it going up much higher than where it is at now.


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Lsut81
Chicago Cubs Fan
Member since Jun 2005
69374 posts

re: Have some extra cash saved up thinking about paying off car
quote:

I would eliminate the note on a depreciating asset


What does it depreciating have to do with it? Its still going to depreciate no matter what and doesn't make much of a difference whether its paid off or not.

You end up with the same amount of $$$ in the end no matter what.

As for the original question, its always nice to have less bills, on a psychological level, but its smarter to put the money towards the higher interest rate loan.

But in the end, I would bet the difference of 1.5% on 20k, over however many years it would take to pay off the car, is only $500 or so. So then its just up to you whether its worth $500 to not have to deal with another bill or not


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Ace Midnight
LSU Fan
Between sanity and madness
Member since Dec 2006
70757 posts

re: Have some extra cash saved up thinking about paying off car
quote:

not because the car depreciates, but because it depreciates faster than the loan amortizes


This would, perhaps, have been a more artful, elegant way of stating my position - but I think insurance is irrelevant - the loss is the loss. You would want to reduce your potential for loss - regardless. Again, my point in the first place - if you're holding debt secured by a depreciating asset - it was dumb when you made the note, dumb when you pay the note and extra dumb if you take it all the way to maturity. I've done it - it was dumb when I did it.

And the decision to retire is very similar to the decisions to make the loan in the first place. "I wouldn't pay $X for this car today, so why am I holding a debt for that much, plus interest?"

I guess I see it as cutting losses - some of y'all don't see it that way. Agree to disagree.
This post was edited on 5/16 at 11:51 am


Lsut81
Chicago Cubs Fan
Member since Jun 2005
69374 posts

re: Have some extra cash saved up thinking about paying off car
quote:

I guess I see it as cutting losses - some of y'all don't see it that way. Agree to disagree.


But you're not cutting any losses, you are just shifting it around. If he didn't have any other debt besides the car, then yes, paying it off makes sense. But he is talking about deciding which debt to pay down and the car is the lower % one.



Ace Midnight
LSU Fan
Between sanity and madness
Member since Dec 2006
70757 posts

re: Have some extra cash saved up thinking about paying off car
quote:

If he didn't have any other debt besides the car, then yes, paying it off makes sense. But he is talking about deciding which debt to pay down and the car is the lower % one.


It's a point and a half. Yes, the mortgage is over a longer term, but the car is better for cash flow AND net effect, particularly as the mortgage interest is tax deductible - that's got to be worth a point or so.

Plus, he's not going to retire the mortgage - he could retire the debt on the car.

If his mortgage was 6 or 7% and the car was a 0% APR special - maybe I reduce his mortgage - particularly if that switched off his PMI - but this analysis is far more complex than comparing APR.

This post was edited on 5/16 at 12:34 pm


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