Help me with the math, and the logic

[CathyA]

I have trouble with these kinds of problems.

I'm going to buy a car. It will probably be around $30,000. (yikes!!). If they are offering 0.9% APR for up to 60 months, should I take that, and then make the monthly payments with our Home Equity Loan, which has a 3% interest? Or should we just pay for the whole thing upfront with our Home Equity, and then pay the Home Equity back (at 3% interest, plus it's deductible).
Any ideas?
Thanks.

[lessisbest]

I think this whole thing is a huge mistake - at any % interest, even as a so-called "deduction". I would purchase an affordable vehicle I could pay cash for - PERIOD! You are robbing the equity in your home on something that has a value that drops like the proverbial lead balloon the minute you drive it off the car lot. It's just a plain bad deal all the way around. I also consider choosing to go into debt a really bad move.

When we need a car replaced, we have already saved for it BEFORE we need it. Why not pay yourself the interest? Here's how that "deduction" works....
If you have a loan for $200,000 @ 4% interest, you pay $8,000 in interest to the bank each year. If you are in the 25% tax bracket you will only get a tax break of $2,000. So you essentially pay the bank $8,000 in order to save $2,000. Not a good move in my books....

Debt free and living well because of it.

[lmerullo]

Are those the only two options? Then I say pay only with the home equity, otherwise you will be paying both the 0.9 and the three percent each time you make a payment.

If you could afford to swing the car payment out of income (usually a paycheck) then taking the straight car loan is the way to go - but ONLY if you pay it off completely before the sixty months is up. There is likely a large penalty if payments go over sixty months and it would likely eat up a huge chunk of the promotional low interest rate.

[CathyA]

The good thing about using the Home Equity loan is that we can pay it off as quickly as we're able......which could mean taking out of our savings as we go, if we want. Yeah.....I too was thinking that if I took the .9% and paid it with the Home Equity, then we'd be paying both percentages. We're pretty good at trying to pay off the Home Equity ASAP. We could pay for the car now with some of our savings, but I would feel insecure reducing that right now. I'd rather see how the next 6 months goes and maybe pay it down more quickly. Our house/property is paid off, so this is a small portion of it, and I will work hard to pay it off quickly. We usually don't use our Home Equity, and when we do, we pay it off quickly.
I would feel insecure paying it all with our savings.

[bekkilyn]

I wouldn't touch your home equity for a car as you are putting your home at risk for something that immediately loses value. If you can't afford the car without using equity, then it might be best to look for something less expensive. I'd go for something you can easily pay off within the given time frame for the low interest.

[Alan]

It doesn't make sense to me to pay off a 0.9% loan with a 3% loan. If you can pay off the home equity loan "as quickly as you're able", why not pay off the car loan "as quickly as you're able"?

[CathyA]

I don't mind paying a little interest in order to have our savings cash available for something else. If I used a big chunk of our savings to pay this off the day I buy the car......that leaves us sort of vulnerable. We will always have enough to pay off the Home Equity loan at any time........so that makes me feel secure that our home wouldn't be taken away. We have a lot of property and what we would be taking out of the Home Equity is pretty small, over all. I will probably take some of the savings out in a couple of months and pay more of the Home Equity. I just want to be in control of when we pay it......as opposed to a regular loan, where you can't pay it off as quickly as you'd like, without a penalty.
I've chosen to get the car new, since this will no-doubt be the last car I own. And it has a good extended warranty, and Dh's car is getting old, and I've used this Honda place for 15 years and they are very reliable and fair.

[Alan]

I just want to be in control of when we pay it......as opposed to a regular loan, where you can't pay it off as quickly as you'd like, without a penalty.

I've never had a loan with a penalty for early pay-off although I know they used to be fairly common. I've always paid extra principle or paid off loans in full on my schedule, which is something I'd recommend for everyone.

[Float On]

If you used your savings to buy a new car, how fast could you build it back up?

[rosarugosa]

My experience has been the same as Alan's, that I could pay extra on a loan without any prepayment penalty. If you definitely want to go ahead with the purchase, I would recommend going with the car loan at .9% and not use the home equity at 3%. It should be easy enough to establish for sure if you can prepay or pay extra on the loan, so go ahead and remove that uncertainty from the decision-making process.

[jp1]

I'd say take the 0% loan and then pay it off on schedule. Any money that you are considering using to pay it off ahead of schedule can be invested somewhere and earning income. The only different advice I'd offer would be if they were willing to sell you the car cheaper if you pay in cash. Then I'd look at whether it was a big enough reduction to either 1) save you more money compared to the home equity loan's interest over the life of the loan, or 2) the savings was more than what you'd lose in income from having the money invested elsewhere.

[lessisbest]

Some other questions you need to ask yourself.... Is there anything "wrong" with the car you are currently driving, or is this new car just something you want? What year is your current car and how many miles does it have on it? What kind of mileage do you put on it annually and how is it normally used? What is the trade-in value of your current car? All those things factor into making the purchase to begin with - especially if you have other debt.

If you can't afford the cash to pay for this car, then can you pay yourself that "car payment" into a car savings account for two years until you CAN pay cash? You may be getting more car than you need, and therefore incurring too much debt, especially if you are carrying other debt (credit card/s, loans). This is especially true of vehicles, which only go down in value. Look for a good used car with low mileage and 1/2 the price tag if you really need a different car. "NEW" is not only over-price, but it's also overrated. No one gets out of debt buying cars they really don't need, with money they don't really have, to impress people they don't really like.

[catherine]

I'm guessing jp1's idea makes the most financial sense. Take the deal that carries the least amount of interest, especially if it's less than 1%.

But as a Dave Ramsey devotee, I would purchase it with cash, especially if you are not earning that much with the cash in your savings account. Even better, purchase a 2-3 year old car with cash. Cars lose up to 20% of their value the first year, so you might be able to get a really good deal.

[goldensmom]

Some other questions you need to ask yourself.... Is there anything "wrong" with the car you are currently driving, or is this new car just something you want?

I know that your question is not 'should I buy a new car' but the frugal me asks the question. Assuming you already have a car, do you need a new car or want a new car? In answer to you question, however, I don't ever think it is a good idea to use a home equity loan for something that depreciates so fast. I would advise to only use a home equity loan to do an improvement to the home the increases its value, i.e. new roof, structural improvements, etc., etc..

[CathyA]

Yep.....I need a new car. I've thought about a used one versus new, and I've decided (probably......) on new. My car is 15 years old. The transmission is failing, it needs new wheels, new tires, new brakes, the catalytic converter hasn't worked in years, and every other warning light is lit up. Need I say more? Oh.......it has 170,000 miles on it. I've always had it serviced regularly through those 15 years. But not having a garage and living in the middle of woods (with squirrels, mice, etc. who love to chew wires), it has taken it's toll too.
I want a car with a long warranty, and probably won't break down for many years. I love my Honda dealership/service. They have always been totally fair and reliable. I need a van because I transport lots of bigger things. Neither DH nor I know how to fix cars and we don't know anyone who does. So we tend to pay more for things, for the convenience.

So "do you really need a new car" wasn't my question. I just wanted input on the various ways to pay for it. DH seems convinced that the tax deduction of the Home Equity interest is very important. But.......we do need to find out more about the terms of the 0.9% loan that the car place might be offering. And we'll have to do the math as to whether the money we would save with the Home Equity interest deduction is greater than the money we would save by going with the 0.9% loan, whose interest isn't deductible.........Plus, a lot would depend on how long we take to pay it off. We've always kept our cars until they were goners..........10-15 years. So it's a long-term investment for sure.

[kib]

Just my personal experience, the wonders of The Tax Deduction are vastly over-rated. If you have tax program, try plugging in the added home equity interest you'd pay to your last return and see for yourself if it actually makes an appreciable difference. I agree with jp1. If you re-consider and go for a good used car instead, the home equity is probably going to be your best rate.

[lessisbest]

Yep.....I need a new car. I've thought about a used one versus new, and I've decided (probably......) on new. My car is 15 years old. The transmission is failing, it needs new wheels, new tires, new brakes, the catalytic converter hasn't worked in years, and every other warning light is lit up. Need I say more? Oh.......it has 170,000 miles on it. I've always had it serviced regularly through those 15 years. But not having a garage and living in the middle of woods (with squirrels, mice, etc. who love to chew wires), it has taken it's toll too.
I want a car with a long warranty, and probably won't break down for many years. I love my Honda dealership/service. They have always been totally fair and reliable. I need a van because I transport lots of bigger things. Neither DH nor I know how to fix cars and we don't know anyone who does. So we tend to pay more for things, for the convenience.

So "do you really need a new car" wasn't my question. I just wanted input on the various ways to pay for it. DH seems convinced that the tax deduction of the Home Equity interest is very important. But.......we do need to find out more about the terms of the 0.9% loan that the car place might be offering. And we'll have to do the math as to whether the money we would save with the Home Equity interest deduction is greater than the money we would save by going with the 0.9% loan, whose interest isn't deductible.........Plus, a lot would depend on how long we take to pay it off. We've always kept our cars until they were goners..........10-15 years. So it's a long-term investment for sure.

Those are even better reasons to pay cash for a car.... You literally don't even have any trade-in value to help off-set the purchase. So your vehicles are "investments" that will guarantee no return for money spent, plus all the cost of the interest - which is considerable on a $30,000 car.

My son just purchased a 2010 Chevy HHR with 25,000 miles on it for $11,000, and it gets great gas mileage and has lots of storage and cargo space, which he needs in his line of work. He traded a 2003 Toyota Matrix with 125,000 miles on it (he purchased it used with 29,000 miles and still had some trade-in value). He said he could get an 8-ft long fence post in that little Matrix with the front passenger seat down flat, and it had a fair amount of cargo space as well - along with great gas mileage. He puts lots of miles on his cars, so he saves thousands of dollars by buying a good used car and paying cash more frequently than your 10-15-years. He can trade when he accumulates the amount of cash he needs for the next vehicle "bargain", while it still has some trade-in value and doesn't have all those mechanical problems.

When you get the home equity loan, be sure to see the actual ratio of interest PAID and the amount of tax deduction when you do your taxes, because you will most certainly end up paying more interest than what you get as a deduction. Any CPA worth their salt would be able to show you this if you were to consult them. Plus you are risking the equity of your home. But, as the old saying goes, "those who are convinced against their will are of the same opinion still".

[TVRodriguez]

If you love your dealer and are looking for a Honda that can carry a lot, you might take another look at the Honda Fit. It is small on the outside but I've heard that it actually can carry quite a lot. It's also (I believe) less than $20,000 brand new. I have a Honda Odyssey, and I love it, so I've got nothing against vans, but if we had a smaller number of regular passengers or fewer carseats that take up room, I think I'd have gone with the Fit.

I'd also go with the dealer's 0.9% interest rate over the home equity's 3%, even though the 3% is tax-deductible. If your total tax rate is about 20%, then the interest rate is more like 2.4%, which is still higher than 0.9%.
3.0 x 20% = 0.6
3.0 - 0.6 = 2.4

It's your total effective tax rate that matters, not your marginal rate. So if you're in the 25% tax bracket, that doesn't mean that your total tax rate is 25%, which is why I picked 20%. But whatever your rate actually is, the formula should be the same as above. Even if your tax rate is actually 25%, that would put you at 2.25%, which is still higher than 0.9%.

Many dealer financing agreements do not have prepayment penalties. Ask about that first to be sure.

[herbgeek]

I have a Fit, it does indeed hold a lot. I call it my Ikea car because I can pretty much bring anything home I might purchase from Ikea in it. The Fit is configurable - you can arrange one way to get something long and narrow in it, or something tall (in the backseat which folds up), or just lots of stuff with the back seats folded forward into the floor. List price was around 18K with destination charges. I have the model up from the base model (which is cheaper,) but not the one with heated leather seats and built in nav system.

[CathyA]

Thanks everyone. The deed is done. All the electronics is rather overwhelming, but I'll get used to it. Sure wish they'd make new cars with a lot less electronics. Our sales guy said there's competition of car makers to see who can use the most electronic stuff........which is really unfortunate.