Today, many people consider having a car as a necessity. Did you know there are currently over a billion cars in the world? This averages to around one car per every eight people.
People use cars for many reasons, including going to work and running personal errands. Some individuals have multiple vehicles. Others have one of their goals as buying or replacing their car.
How do you tell what car you can afford? How do you decide if the price is within your budget range? In today's article, we share things to consider when deciding on a vehicle budget.
- Cash
At Debt Free Living 254, we advocate for buying a car in cash. Vehicles generally depreciate. It means when selling, you will get a lower amount.
Such characteristics of vehicles mean you are running at a loss and, therefore, negatively impacting your finances. When you take a loan, you are losing value and paying interest. You now have the risk that comes with debt plus a depreciating asset.
Emotionally, this guideline may feel unreasonable. You may even justify the purchase. The reality is financial math does not lie.
- Annual Income
Your annual income is a critical factor in determining your car budget. The guideline is that all vehicles you own should be less than, or at maximum, half your annual household income. Avoid spending beyond half of your year's work on a depreciating asset.
Remember the principle of opportunity cost. When you spend on an item, you forego another option. Choose appreciating assets to shorten your path to wealth.
Aligning with the guidelines may mean postponing your goal of owning a car. Be creative as you remove debt as an option off the table. Your net worth will thank you.
- What's Your Net Worth?
Your net worth is what you own minus what you owe. Your assets belong to you, while liabilities are what you owe others. Assets can include paid-for houses, investments like Money Market Funds, treasury bonds, etc.
Minimize your liabilities to reduce your risk of default when unfavorable financial conditions crop up. The concept of leveraging other people's money comes with attached risk. Remember, building wealth is a series of positive money decisions.
Buy a brand new showroom car when your net worth is at least the equivalent of one million US Dollars. At this stage, your finances can take the hit of a depreciating asset with minimal impact on your financial future. Though this guideline may seem unreasonable, even ridiculous, remember financial math does not lie.
Conclusion
Cars are depreciating assets. Justifying your decisions does not take away the impact on your finances. Avoid leasing and buying vehicles on credit.
Building wealth requires a mindset of earning, not paying interest. Ask yourself whether your decision is adding or subtracting from your net worth. Looking at a car as an investment does not change its financial characteristics.
Studies show that many millionaires do not own brand-new cars, with some driving vehicles that are a decade old. Billionaires are on an asset level where purchasing showroom cars impacts their net worth minimally. Choose to make the decisions that help you build wealth.
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