I have the privilege of working with several local high schools to teach about finances. We have a lot of fun and talk about the basics of budgeting, ways to save money, and why it’s important to think about credit and savings early. It never fails when I go to speak that I use a very straightforward example of the cost of credit and the kids (and teachers!) love to participate. Here is the scenario I use…
Five lucky persons get to go to the Virtual Car Lot today and choose their very own car! It’s the same make and model, each valued at $12,000, but its 5 very different stories. Let’s look at these individuals and see what’s going on with their finances as they talk with the salesman.
Jerry is our savvy saver. He has been saving money from birthdays, summer jobs, and gifts from his family. When he goes into the dealership, he has the cash ready (ok, probably a check or money order), pays his $12,000 and drives off.
Sandy, like most people, doesn’t have money saved up. So she does what most people do and finances the car with a loan. She decides she wants to pay it off before she graduates college in 3 years, and she’s approved for 8% interest. Her monthly payments are $376. By the time she makes all her payments, she will have paid a total of $13,537 on the car.
Bertrand is also approved for an 8% interest rate loan, but stretches his out to 5 years, paying $243 monthly for a total of $14,598.
Destiny and Shaun also get 3 and 5 year loans, respectively, but when they have their credit pulled they are offered the loan at 18% interest. That makes Destiny’s payments $434 for a total of $15,617 and Shaun’s $305 monthly for a total of $18,283.
Here are the numbers in a concise chart (because I love charts):
So what should we take away from this story and graph?
- First of all… who got the best deal? Many people will rightly say that Jerry did since he paid the least overall. But others will say Sandy or Bertrand. After all, that low monthly payment is what the car lot is going to sell you on. They will not try to make a deal sound great by saying that they can get you into a $12,000 for only $12,000; they say “We can get you in the car you want for under $250 a month!” Being a smart consumer that takes into accounts the long-term cost will be definitely help your wallet!
- Who got the best car? Hint: It’s a trick question. They’re all the same car, it’s just that Shaun wound up paying nearly half as much for the car as Jerry because of the interest and terms on the loan.
- Does that mean that credit is evil and I should never borrow money? While that is a personal decision and many wise people will argue both sides, I certainly can’t go that far. After all, all five people drove off with a much-needed vehicle to get them to work and only one completely paid it off. Credit helped them better their lives and their income potential in these cases.
- Would you be able to tell someone’s purchasing story just by pulling up next to them at a red light? Nope. Just because someone drives the latest and greatest car (or an old junker!) doesn’t mean that they have their finances all together and aren’t paying exorbitant interest. Don’t set your plans for a new car on someone else’s budget.
- What can you do to put yourself in the best position to pay the least overall? Opting for the least number of years is huge (especially when there are 6- and 7-year car loans out there… and don’t get me started on 15- versus 20- versus 30-year mortgages). Work on your credit before you buy so that your score is the best it can be and your interest rate is low. Plus, having a large down payment means you have to borrow less.
Are you curious about how your credit is affecting your purchasing power, wanting to plan for a big purchase, or worrying about your debts paid off? Apprisen is here to help. You can reach us by phone, at our local offices, or online.