Yo Momma Finances Depreciating Assets

by JT McGee

Financing depreciating assets isn't that bad.β€œYou should never finance a depreciating asset,” say the people who finance plenty of depreciating assets.

Cars are depreciating assets. How should you buy one?

“With cash!”

“Why?”

“Because cars are a depreciating asset!”

You Finance Depreciating Assets All the Time

You probably finance depreciating assets all the time. I’d venture so far to say that you do it every day.

Let’s talk a little bit about opportunity costs. Opportunity costs are something you forego in exchange for something else.

Say you have a $100,000 mortgage. You want to buy a sofa. You buy one at Big Lots for $500 like a self-proclaimed frugal maniac and feel good about it.

You just financed a depreciating asset. That sofa will lose value. Even if you pay cash for the couch, call it a “divan” and use it mercilessly for the next decade, there was an alternative: paying off existing debt.

Therefore, you financed the sofa.

Unbudget Your Budgets

Here at Money Mamba, we believe that balance sheets have two things: assets and liabilities. If you build assets faster than liabilities, you’re winning. If you build liabilities faster than assets, you’re losing.

This is pretty simple, really–though it does create some non-linear cause and effect sequences.

So then why does everyone say you should pay cash for a car? I have no idea. But if I had to guess, I would say it’s because they’d want you to pay cash for everything, no matter how impractical.

Also, because they’re delusional.

I’ll never understand why you’d forego 0% financing on a car yet sign a 15-year mortgage (people who buy cars with cash don’t believe in 30-year mortgages) with a rate of 3.5%. Net-net, auto financing at 0% is clearly better than a home mortgage at 3.5%, assuming you’re going to buy comp and collision coverage anyway.

Really, I think the phrase “depreciating assets” is thrown around for the purpose of stopping critical thought right in its tracks. Big words are a sure way to get people to stop asking questions, even if their definitions are relatively mundane.

Photo by: TJC

{ 30 comments… read them below or add one }

Eric J. Nisall September 26, 2011 at 07:46

JT, you’re my new hero! Glad to see I’m not the only one who is confused by why people would rather tie up their cash with a purchase rather than taking advantage of a 0% financing deal and then using that same cash which would be gone anyway to pay off other bills or simply invest/save the money and have it working for them. Maybe the concept of “debt” scares them too much or they have a problem admitting that their way of looking at money is flawed (like my idiot post–hey it actually has a practical application!).

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JT McGee September 26, 2011 at 12:17

Logical rules serve no purpose in personal finance! Personal finance is all about creating illogical systems, which should be memorized and repeated to everyone–there is no place for thought!

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Eric J. Nisall September 26, 2011 at 12:23

We should start an anti-anti-cash culture and start preaching the virtues of plastic and how cash should be removed from circulation and burned. We can start a whole new cult

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JT McGee September 26, 2011 at 12:41

I can dig it. Imagine how easy it must be to finance a cult where plastic permeates throughout the community! We could set everyone up on convenient subscriptions.

Alright, where do I sign up?

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Eric J. Nisall September 26, 2011 at 12:56

I’ll just need your credit card info and we’ll be all set. You’ll receive a registration form one I verify your info!

Funancials September 26, 2011 at 08:17

2 Questions:
Where’s the picture of Wilmer Valderrama?
Did you think it was extremely conservative for the prize of Yo Momma to be $1000 “cash money”?

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JT McGee September 26, 2011 at 12:16

LOL. Thanks for the laugh; I forgot that show even existed. But yes, $1000 of “cash money” is way conservative–I guess the show had a small emergency fund. πŸ˜›

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Jonathan September 26, 2011 at 09:10

I wholeheartedly agree – the only reason I could think of to not finance the car at 0% (even if you had the cash on hand!) is if it would prevent you from acquiring financing for something bigger and more important, like a real estate purchase.

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Craig September 26, 2011 at 10:56

Jonathan – good point. My wife and I delayed a car purchase in the past because we were shopping for a mortgage refinance. A car would not have affected our financial plans, but the lending officer warned that a major purchase could cause concerns before closing.

Years ago, a new car would not disqualify borrowers. Today, everything matters.

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JT McGee September 26, 2011 at 12:14

Back in the day (90s?), my dad, who was a mortgage broker, would go into a rage about people who would borrow money before closing.

Depending on the amount of the loan, it was a pretty serious red flag. Mind you, a $10,000 car wouldn’t do serious damage to people who were smart with their finances. BUT! Lots of young couples would get approved for a loan and then go buy a $25,000 car, only to be shocked when the mortgage company basically said they’d have to run the numbers again.

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Ashley @ Money Talks September 26, 2011 at 11:52

The point of not financing the car even at 0% is to avoid the obligation of making a payment. And the people we are talking to when we say that are people who do NOT have the cash in the bank. We are practicing the art of saving up and paying for things with cash. These are people who aren’t as savvy as you and your readers. These are people who have problems getting themselves into to much debt.

If you actually have the option to pay cash or take a 0% loan then you are probably fine to take the loan. But that’s a rare case in this day and age.

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JT McGee September 26, 2011 at 12:12

But there’s a lot of PF bloggers who “pay cash for a car” despite having a six-figure mortgage. If you have debt, you didn’t pay cash for the car; you’re actually financing it at the rate of existing debt, because you forego paying down existing debt to “pay cash for a car.”

The point is that conventional wisdom of never financing depreciating assets doesn’t make logical sense. It’s cool to tell people not to finance ANYTHING, but to say that one should never finance depreciating assets is making a rule of a non sequitur.

My focal point is that depreciation or appreciation doesn’t really change anything about the debt itself. It’s just a rule that was created out of thin air for the purposes of steering people away from debt. Interestingly, it only applies to cars, even though it should apply to any purchase made at a point in time in which you have outstanding credit balances. Yet, no one cares to apply the rule logically, because then they’d have to lose their brownie points for “paying cash for a car.”

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Kellen September 26, 2011 at 20:57

Very good point. As long as you have existing debt, if you could take out car debt at 0%, you should use your cash to pay off the mortgage.

Only issues I would see is if:
a) you needed to get a mortgage loan and didn’t want to hurt your credit and
b) if the 0% loan turns into a high % loan later AND there is a penalty for early repayment.

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JT September 28, 2011 at 20:05

Yeah, those two criteria are important. “Depreciation” shouldn’t be criteria for good/bad loans. BTW, do car dealers still do the 0% for 36 months then 10% for the next 24 hook? LOL, what a racket.

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Jonathan September 26, 2011 at 13:12

No, all kinds of people say it. My FIL will say it – “You NEVER want to get a loan on the purchase of a depreciating asset.” and he uses debt (on appreciating assets) more than anyone I know and has made a fortune from it. He has no problem paying cash for vehicles, but I still don’t know his reasoning for that statement. I’ll ask him.

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JT McGee September 27, 2011 at 09:52

Please ask him and comment with what he says, regardless of his perspective on it. I’m interested to hear.

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Jonathan September 28, 2011 at 10:08

I asked him. He said about what I expected – that there was more context to his comment. Most people finance a depreciating asset (let’s say a car) so they can buy something they can’t afford without financing; or they finance it so they can buy a much more expensive vehicle than they would otherwise; or they finance it so they can also buy a boat; or they finance it because they can and then they blow the money on whatever.

For someone who is financially disciplined and understands money and debt, financing something can be the right choice. So it turns out he and I are on the same page after all.

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JT McGee September 28, 2011 at 10:49

This was what I was expecting, but not what I was hoping for. Personal finance needs logic! Depreciating assets as a qualifier completely irrelevant.

20's Finances September 26, 2011 at 13:11

ouch. good point here. I am one of those bloggers. πŸ™‚ I think my idea is that people who finance cars are more likely to pile up lots of debt and over-commit their finances. I also think if you are living by this rule of thumb, you will buy used because who can afford to pay in cash for a 30k car? Instead, if you opt for the 3 year old model, you still get many of the benefits and don’t lose as much in depreciation. With all that said, you forced me to reconsider my position. who knows where i stand now… haha.

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krantcents September 26, 2011 at 20:15

My mom paid cash for everything except her home. I do too except for cars occasionally, but I own it forever. My cars are 16 and 14 years old.

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Well Heeled Blog September 26, 2011 at 20:50

The way you look at it, it’s pretty impossible to not finance any depreciating asset (i.e. you have a mortgage and you use the cash to pay for the car/boat/sofa instead of the house). I agree, but it’s a little depressing the way you put it into words!

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JT McGee September 27, 2011 at 09:51

Depressing?! It’s a good thing! You can break the laws of convention and still end up just fine.

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Financial Uproar September 26, 2011 at 21:37

Great point. Saying that though, I’ll still continue to pay cash for each car I buy. Two reasons:

1. I’ll continue to buy something slightly used, and 0% isn’t available for used vehicles. I really don’t want to pay 25% depreciation, thanks.

2. Now I may be completely wrong here, but when I tried to buy a brand new car (this is like 5 years ago) I could get the thing for like 20% less when I offered to pay cash compared to financing it. This is just my experience, which admittedly comes from a very small sample size. Maybe the dealers were trying to hose me because I was young, etc.

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Financial Samurai September 28, 2011 at 00:10

Finance a car at 0% if you want. Just make sure you make 10X the value of a car, otherwise you’re delusional into thinking you deserve a car of that price.

You want a $20,000 car? Make $200,000 or more. It’s that simple.

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Jonathan September 28, 2011 at 10:04

Alright, now I KNOW you’re just trying to get a reaction. Well here it is – someone making less than $200k buying a $20k vehicle is not necessarily delusional (they may be delusional, but it has nothing to do with the car purchase). What you’re saying is someone making $40k shouldn’t be spending more than $4k on a car – well it seems to me that buying a $4k car is begging for unreliability, high repair bills, and general headaches.

I spent $20k on a brand new car right out of college with a brand new salary of $40k. I made the final payment 3 days ago and I STILL don’t make $200k. However, for the past 5 years I’ve had no trouble with my car, no concerns I might not make it home or to work, have saved a ton in gas over my old vehicle (which was also unreliable), and my car is still worth $8k or so. Furthermore, even with car payments my wife and I have been saving approximately 50% of our income.

Did I “deserve” a $20k car? I don’t even know what that means. But I did buy one, and it has and continues to work out very well for me.

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JT September 28, 2011 at 20:03

As someone who drives a car in the 3-4k range, depending on KBBs mood, I can confirm that whatever you save on a cheap car you lose elsewhere. My car, for example, burns through brakes like it’s nobody’s business, and KBB compensates for that in their valuations.

Basically paid nothing upfront, but I pay for it in on-going costs. I’ll be glad to dump it for a new car, regardless of the 10% rule.

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PKamp3 October 4, 2011 at 00:36

Your post reminded me of this classic from the Freakonomics blog: http://www.freakonomics.com/2007/10/09/the-economics-of-gold-digging/

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Paula @ Afford Anything December 27, 2011 at 00:08

I’ve had this same thought myself — that when you hold a mortgage, EVERYTHING you buy (milk, bread, dog food) is bought with “borrowed” money, because every $1 you spend is $1 with which you’re not paying back the loan.

That thought drives me nuts.

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BD January 4, 2012 at 20:48

Good job! Always ask questions and think critically–a lot of good points and food for thought here. Here are some extra points to consider though. If you get 0% interest financing, it means you are buying at a dealer where chances are you will pay much more than buying from a private seller ( not to mention most dealer will flex even less on price when they know the manufacturer is already incenting with a 0% interest offer), you are also buying a new car which takes a much bigger depreciation hit as soon as you drive off the lot, about half the people who choose financing also has a trade-in in which a seasoned dealer will almost always pay you less than you could have gotten in the private market, you will be required to pay full coverage in$urance for the 0% financing in order to protect the bank’s property (you don’t own the car till you pay it off in about 6 yrs)–kinda like how you have to pay pmi insurance if you leave too little on a mortgage, and for many people who buy at a stealership–they end up getting talked into a couple of ‘dealer options’ or injury/disability insurance, and overpriced extended warranties/maintenance plans, star shield love bug protection, tire insurance, etc. People who finance vs people who pay in cash also spend more on a car because now they focus on the monthly payment that they can ‘afford’ rather than the total cost which most can’t- plus since they buy more expensive new cars, they tend to take bigger depreciation hits because higher dollar cars depreciate even more than small dollar cars.
And let’s talk about opportunity costs–if you take the 0% interest new car deal, you would end up w the scenarios or a combination of scenarios I just touched on.
When you think about it, the ‘opportunity cost’ in choosing to finance at 0% interest vs the ‘opportunities’ you can find from a private seller when paying in cash is pretty substantial.

You have good points, but for the ‘masses’…as long as they don’t have any high interest outstanding loans existing (in which case they shouldn’t be buying a new car anyway), they will probably end up w more money and less debt (which translates to more assets and less liabilities) if they stuck with the tried and true, “buy a car in cash or don’t buy at all”

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The Passive Income Earner July 18, 2013 at 13:33

Just stumble on this post … from your Used Car post πŸ™‚

I agree that when you are offered 0%, you should take advantage of it. It’s a no-brainer but it’s not all dealer that offer 0%. What if you have the choice between $4K saving on paying cash versus 1.5%? (I am not doing the math right now … just throwing it out there.) Do you take the saving and then use a LOC at primer + 1%.

It think it is complicated in some situation but at 0%, let them finance the purchase πŸ™‚ I just did that with a couch (or a divan πŸ™‚ if you want) just by using their store credit card. I don’t usually like doing that but I don’t have problems with credit cards and doing the payments so I am taking advantage of the offers.

With respect to buying a car cash, you actually need to come up with $20+K or take it from somewhere … No way I am selling investments to buy a car, even a 3% interest on the loan is less than I make investing. Having $20K cash around is an opportunity loss for my investments until $20K is petty cash and I am not sure I’ll ever be there.

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