Tuesday, July 14, 2009

Why your next car should be a new car (if you act fast)


Conventional wisdom tells us that the cheapest way to buy a car is to buy a used car. Get a car that's two or three years old and you've avoided the steepest part of the depreciation curve. After all, a new car loses 10% of its value the second you drive it off the lot, right?

Well times have changed and today this is not nearly as true as it once was and in many cases it may even be completely false. Here are three reasons why:
  1. Car companies and dealerships have too much capacity and they are desperate to sell you a new car. This means you can get thousands off of MSRP.
  2. Interest rates are down. The cost of money is very low right now. This means that even if your dealership isn't offering some crazy low loan rate, your local credit union probably is. My credit union, for example, is offering 4.24% interest on a car loan for 72 months right now. That's crazy low!
  3. The prices of used cars are up. For used cars that get decent gas mileage, prices are up substantially. Perhaps it is the weak economy that is driving up prices of used cars since they are perceived as being more affordable. Also, people still seem to remember $4.00/gallon gasoline so fuel economy still seems to be a factor people actually consider.
I just went to Craigslist for an example of what I'm talking about. I typed "jetta diesel" in to the search box and here is one of the first results that came up.


$6950?! For a Jetta with over 183,000 miles on it?! Volkswagens aren't exactly known for their reliability so we're talking about a serious sum of money for a car that has three wheels in the junkyard already! The really scary part is, this car isn't even over-priced according to KellyBlueBook.com.

Let's take a closer look at a specific example of new versus used. For sake of argument, let's say you've decided you want Honda Civic LX with a manual transmission. We'll compare one that's three years old to one that's brand new. Let's also say that you're going to keep either car for five years.

Right now you can walk in to Walser Honda in Burnsville, Minnesota, and buy this car brand new for $15,665. That's $2500 off. Walser is one of these haggle-free places so you won't have to negotiate for that price either. Put in a little effort at one the the haggle dealerships and you should get $3000 or more off right now. This shouldn't be too hard either. After a quick exchange about a month ago I got a dealership to offer me $3000 off when Walser was only offering $2000 off. Add it tax and registration and you should be out the door for less than $16,500.


Now let's compare that to the same Honda Civic that is three years old. The Kelly Blue Book value of a 2006 Honda Civic LX with a manual transmission and 45,000 miles on it is $11,995. These days you'd be lucky to find such a car for private party value but let's say through careful searching and good negotiation that you do. Well, unfortunately you still have to pay sales tax and registration on your used car as well so you'll be free and clear for about $13,000. Wow, you're starting out ahead $3500! Not bad, eh?

Well let's continue by looking at how much each will be worth when you sell it. You're not a sucker so let's assume you're going to sell it yourself for private party value rather than getting screwed by trading it in to a dealership. Let's also assume that you drive the typical 15,000 miles per year and that you're careful with your things so whether your Civic is five years old or eight years old when you sell it, your car is still in "excellent" condition. Of course excellent is a relative term. The 8-year-old car with 120,000 miles on it will undoubtedly be in much less excellent condition than the 5-year-old car with 75,000 miles on it.

Let's ignore inflation and assume that an 8-year-old Civic is worth the same five years from now as an 8-year-old Civic is today. At selling time, you're 8-year-old Civic will be worth $4705. The 5-year-old Civic will be worth $7775. The difference? $3070. So you'll save $430 by buying your Civic used.

Even if you add in fanancing things are looking pretty good for the new Civic. Let's say you had exactly $14,000 to spend so you had to finance the $3500 difference between the cars. If you spread that difference out over the 60 months at 4.24% you'll be paying $64.83 per month for a total of $3890.40. Keeping in mind the $3070 more you're going to get when you sell the 5-year-old Civic the total difference between the cost of the two cars is now $820.40.

But that's far from the whole story. If you bought the new Civic your car would have been covered by a Honda bumper-to-bumper warranty for half the time you owned it! It would have been covered by a powertrain warranty for all but the last year! Combine that with the fact that it's significantly newer the entire time you own it so it's much less likely to break. (Yes, believe it or not, even Honda Civics can and will break.) It could be a tires, a clutch, could be CV joints, could be brakes, or it could be all of the above. It could even be worse - a friend of mine had a Civic with 95,000 miles on it when its engine completely died! Needless to say, the difference in service costs between these two cars will very quickly make up for and surpass that $820.40 savings that you get with the used Civic.

I've found this applies pretty broadly - at least it does for cars that get good gas mileage. In general I have found that if you try these calculations with an even older used car, you will see less depreciation but more risk and more maintenance. Go too old and you'll be losing safety features and end up driving a junker that needs more work than it's worth.

So if you're considering buying a car - new or used - go buy a new one and buy it now while dealer incentives and low interest rates make this possible. The free market has a way of working itself out so this won't last long!

4 comments:

  1. I like your blog Ben! I am on my way to the Mazada dealership right now : )

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  2. I agree. I always buy new. I'm glad to see someone articulate this so I have some ammo when I tell people to buy new and they tell me I'm crazy.

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  3. Thanks Cathy! Glad you like it. :)

    Shock: Happy I could help! I'm a recent convert to new car purchasing but I think it's worth it - especially if I can manage to hold on to my cars longer than I have in the past. :-)

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  4. If you have a lot to spend then considering to buy a new car is quite awesome. However, if not, Toyota used cars are adorable :D

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