Financing a car might sound like a more expensive option if you have the cash on hand. After all, you’re paying to borrow money that you already have available. However, there are some situations when financing is actually a less-expensive choice.
Is it better to buy a car with cash or a loan?
Whether you should buy a car with cash or financing depends on your personal situation. If you’re planning on taking out another loan — like a mortgage — buying with cash might be the way to go. But if you’re looking for a better deal, financing might actually help you save if you invest that money instead or qualify for a dealership discount.
In many cases, you might actually be able to save by financing your car — or at the very least free up that money for something else. Here are a few reasons why you might want to borrow even when you could pay up front.
Make money by investing instead
Investments often have higher returns than car loan interest rates, which tend to be lower than other types of financing that don’t require collateral or allow you to bring on a cosigner. If you can get an APR in the single digits on a car loan, investing that money instead in a diversified portfolio can often give you at least a double-digit return annually.
Investing your money rather than paying for a car up front might also be appealing because vehicles lose value over time. Investment gains can help offset the depreciation and keep your net worth higher than it would have been if you’d simply bought the car up front.
How investing can help you save
Not sure if investing is a good idea? Let’s take a look at a hypothetical example. Say you have cash on hand and are trying to decide if you should pay for your car up front or take out a car loan and invest that money instead.
You’re looking at a $30,000 car loan on a $37,500 car. You could qualify for a car loan with a five-year term at a 6.5% APR and invest that money in a portfolio with an average return of 15% per year. Since it’s a new car, it’s set to lose 20% of its value in the first year and 10% per year for the next four years.
Here’s a breakdown of how much you would net by borrowing and investing:
Total loan cost: $5,219.07
Total investment returns: $30,340.72
Net gain: $25,121.65
After five years, your car would have depreciated by 60% or $22,500. Even factoring in depreciation, you’d still earn a total of $2,621.65 and have a car worth $15,000 and that original $30,000, adding up to a total of $47,621.65.
In this scenario, you’d have:
$17,621.65more than you’d have if you’d just let that money sit in a no-interest bank account.
$40,121.65more than you’d have if you’d paid that $30,000 in cash.
Investments are a risk. There’s still a chance you could lose some or even all of that money — and on top of that have to pay off a car loan. But even if you invest in a low-risk option like bonds, the earnings could still put you in a better position than if you’d paid in cash.
Lower the immediate cost
Another reason you might want to borrow is that you won’t have a car-sized hole in your bank account. Financing allows you to break up something that might cost tens of thousands of dollars into repayments that barely affect your budget. This is particularly worth it if you can qualify for a low interest rate.
You can use that extra cash to fund costs and projects that might be more expensive to finance, like home improvements on a new house.
Build your credit
Another advantage of getting a car loan is that it can build your credit. If you’ve avoided loans in the past because you’ve paid in cash, it might be a good idea to take out a car loan to build your credit score since they tend to come with lower rates compared to unsecured loans.
Aside from adding to your record of on-time repayments, it can also diversify the types of credit in your report, which can both boost your score.
Increase your savings
Putting that money toward retirement, your child’s education or even a rainy-day fund could be a better choice than spending it on a new car. That’s because savings accounts and portfolios earn money over time and are relatively easy to access if you need money fast. If buying a new car up front means draining out your emergency fund, financing might be the way to go.
Get a better deal on the car’s price at the dealership
Dealerships tend to prefer financing buyers to cash buyers. That’s because salespeople make a commission on your loan if you borrow through the dealership.
They’ll often knock down the price of a vehicle as an incentive to borrow. Or they might even offer 0% APR financing to borrowers with excellent credit if they need to move cars off the lot — in that case, your loan works more like a payment plan.
Paying for a car with cash is generally the safer choice, since there’s no danger of defaulting or going upside down on your loan. But there are a few other reasons why buying a car with cash can make more sense.
Avoid paying interest or fees
One of the top reasons to buy a car with cash is that you won’t have to pay for financing. If you have bad credit, no credit or can’t find a cosigner, this might be a better option.
That’s because you likely won’t get favorable enough rates and terms on a loan to make financing worth it with a credit score under 670 — what most lenders consider to be good credit. Even if you invest that money, there’s the risk that you could lose it. Or worse — go upside down on your loan.
Frees you up for other loans
Thinking of buying a house soon? Taking out a personal loan? Having an unpaid car loan on your credit report can hurt your chances of getting approved for a competitive rate.
That’s because it increases your credit utilization ratio — how much debt you owe versus how much credit you have access to. It also increases your debt-to-income (DTI) ratio, which tells lenders how much of your income goes toward bills each month. Having a high credit utilization ratio or DTI can sometimes even get you rejected for a loan entirely.
Opens up more non-APR dealership discounts
Dealerships like to offer discounts on financing to bring customers in. But cash buyers might also be able to qualify for other discounts like cashback deals and rebates. While you might be able to get these with financing — some might even require financing — you might be able to save more by paying in cash.
Less of a hassle
Even the most hands-off financing takes time and effort. You have to fill out the application, supply documents and read the contract before signing it. And then there are the repayments. Even if you sign up for autopay, you still have to budget around repayments and keep an eye on your balance until you’ve paid off your loan. If you don’t think it’s worth it, then paying with cash is likely the way to go.
More used car options
Want to buy a used car? If you aren’t interested in buying from a dealership, cash makes private sales a lot easier. Private-party auto loans tend to have higher rates than other used car loans. And they can be difficult to come by since many lenders only offer loans for buying a car at a dealership. How to calculate your car down payment
Can I pay for a car with part loan and part cash?
Yes. In fact, most dealerships and lenders recommend that you make at least a 20% down payment on the car. This reduces the overall cost of your loan and can lower your monthly payments. It can also make it easier to qualify for a more competitive rate, which can help you save over time.
Paying for a car with cash might seem like a no-brainer if you’re trying to save money — especially if you’re planning on a big purchase like buying a house in the near future. But taking out a loan and investing that money instead could help offset the cost of depreciation. You can read more about how car financing works and compare lenders by reading our guide to auto loans.
Frequently asked questions
Generally not a car loan. Once you’ve bought the car with cash, you can’t take out a loan to buy that car. However, you can use the car as collateral on a secured personal loan. Since it’s a different type of loan, you might not be able to get the same rates and terms as you would if you’d originally borrowed to buy your car.
It can be, though it depends on how you’re paying. Typically, cash buyers get a check when they buy a car with a cashback deal or have it directly subtracted from the price of the car. If you’re financing the car, the cash back often goes toward your down payment, which reduces your loan amount.
No. Since you’re not taking out a loan as a cash buyer, you don’t have to sign a loan application.
Anna Serio is a trusted lending expert and certified Commercial Loan Officer who's published more than 1,000 articles on Finder to help Americans strengthen their financial literacy. A former editor of a newspaper in Beirut, Anna writes about personal, student, business and car loans. Today, digital publications like Business Insider, CNBC and the Simple Dollar feature her professional commentary, and she earned an Expert Contributor in Finance badge from review site Best Company in 2020.
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