Thursday, August 10, 2006

Financial wisdom for purchasing a car

M and I are pondering the purchase of a van. My '98 Nissan Sentra is making trips to the repair shop a monthly habit. And if our family gets bigger--something we're mulling--then we'll definitely have outgrown her Honda Civic, which serves as the family car.

Our conversations have included whether we should pay for a portion of the van with savings, or keep the savings intact and borrow the money instead. They've also shown me just how emotions can make a big impact on money decisions.

Borrow a third, or all of it?
Through savings, my trade-in, and a possible cash gift from our family, we could pay about $8,000 for the van upfront. I estimate that's about two-thirds of the price for a used, but still reliable, vehicle.

However, M is uncomfortable putting out that much money at once. To her, since we live on just one income, borrowing for the whole purchase and paying $250-$350 a month for five years is more appealing. "It just doesn't seem as big an expense," she said.

Answer isn't clear-cut
From a strictly numbers standpoint, the "right" decision may seem obvious. Paying a portion in cash, I estimate a van will cost around $15,000 total, factoring in interest from the approximately $4000-$5000 we'd have to borrow. Borrowing the entire amount at say, $300/month for five years, would cost $18,000 total.

But spending decisions aren't just about numbers. Perhaps fearful that we'll need the cash for an unexpected expense down the road--which has also crossed my mind--M likes the idea of keeping the money in the bank as added security. We have about two months living expenses saved for emergencies, but our monthly income doesn't allow us to add to it regularly, so it's tempting to just keep as much cash on hand as we can.

Know your emotional blind spots
Think about some of the most recent big purchases you made. How much did fear play a role in your decision to pay for them in cash or credit?

Being wise with your money includes knowing your emotional blind spots and how they affect your spending. If you were in our situation and more cash in the bank for emergencies helped you sleep better at night, then borrowing has a value. However, note that the real spending decision you are then making isn't just whether you can afford a purchase; it's whether the costs and risks of borrowing are worth that added emotional security.

To make the "right" spending decision, crunch the numbers but consider how your heart is influencing how you look at them. How much is fear, desire, frustration, anger or other emotions pushing you in a certain direction?

I'm not sure yet what decision M and I will make (my emotional blind spot is fear as well, which tends to make me drag my feet when it comes to big purchases). But one thing I'm learning--financial wisdom comes from considering both the logical and emotional sides of the coin, not just one or the other.

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