Vehicle finance or cash? Choose wisely

After the recent interest rate cut, financing a vehicle is as affordable as its been for almost five decades. Taking out vehicle finance is the only way most people can afford a set of wheels, but forking out your hard-earned cash to pay interest to a financial institution for a fixed period is still a bitter pill to swallow. Especially for a vehicle that depreciates year on year.

Not everyone is blessed with having the lump sum required to buy a car lying around, but should you be in such a position you’d be wise to weigh up your options with the help of a few sums. Let’s use a pre-owned car selling for R100 000 as example. We’ll just use the car’s purchase prince a finance costs and these calculations won’t include maintenance, licence fees, fuel and insurance.

If you take out finance without a deposit at an interest rate of 9% (prime plus two) over 60 months without a balloon payment on a car of R100 000, you’ll pay R2 1 69.90 per month. This instalment is inclusive of the mandatory initiation fee of R1 207.50 which gets added to the initial loan amount of R100 000 and the monthly service fee of R69. The total amount you’ll end up financing the car will be R130 193.57.

This amount of interest you’ll pay will reduce with every month the term is shortened by, while every month less will also mean one R69 service fee less. A deposit will also make the loan amount less, also resulting in reduced monthly instalments. On the other end of the scale, if you are a first-time buyer the financial institution could offer you a higher interest rate. And if you opt for the maximum term of 96 months, you’ll be paying a lot more interest.

If you can scrape together the R100 000 to buy the same car cash, you’ll save just over R5 000 in initiation and service fees alone compared to when financing it over 60 months, let alone around R25 000 in interest at the current rate. If the interest rate increases, like it’s bound to do at some stage in future, that number could go up to almost R33 000 if the prime lending rate shoots up to 10%.

Paying interest on a car that depreciates every year is a bitter pill to swallow. Picture: iStock

If you feel that you can rather put that R100 000 to better use elsewhere, a fixed deposit at a bank is your safest bet. Banks offer around 7% at the current interest rate for fixed deposits for 18 months or longer, which will mean a return of R35 000 should you wish to put away the R100 000 for five years instead. That is slightly more than the money a cash-deal compared to vehicle finance will save you over 60 months.

Obviously, unlike a fixed deposit, a car will lose value over those five years. Even though you might have saved around R30 000 in fees and interest, your R100 000 might only be worth R65 000 compared to the R135 000 pay out upon expiry you’ll get from your fixed deposit. But, the car would have still only cost you R100 000 compared to the almost R130 000 it would have through vehicle finance. And the fact that something you paid R130 000 for could only be worth half at that stage is a sobering thought.

Apart from the actual numbers, there is another benefit in you owning the car you drive instead of the bank. Without being burdened by debt owning on the vehicle, you’ll have a lot more freedom in offloading the car when to wish to and you’ll be safeguarded against troubled times when you might not be able to afford the repayments.

Because of the way vehicle finance is structured, it’s not the most economically viable option to get out of the lease agreement in the first year or two. Should you wish to trade in your financed car or opt for a buy out in the first 12 to 18 months, you’ll in all likelihood have to throw in additional money as the outstanding debt could still out weight what you are offered. This could mean that you might be stuck in your car against your will should you not be entirely happy with it or wish to up- or downgrade in the immediate future.

When you own the car, you won’t be burdened with settling outstanding debt first, giving you the freedom to sell the car privately which is guaranteed to be a more lucrative option.

Make sure to do the sums before making an impulsive decision. Picture: iStock

Also, even though financial institutions do allow for a bit of room to manoeuvre, if you’re going to skip too many repayments the creditor can repossess the car down the line. And if you think about it, choosing a repayment term of 96 months means that there is a very real possibility of this happening should you lose your income at any stage in the next eight years.

While the case of spending R100 000 cash on a car is a reasonable every day scenario as the number is not all that exuberant by today’s standards, it’s not always as straight forward. The more expensive a car gets, and these days most manufacturers have offerings for seven digits, the less likely you’re to be in a position to pay cash for it.

And at the lower end of the spectrum, a car might be considered too old to qualify for finance or the buyer might not meet the minimum criteria for a finance application. In cases like these when vehicle finance is not an option and you are not blessed with the cash, a personal loan might be a solution. Like vehicle finance you’ll have to fork out for interest – likely at an even higher rate – and additional fees and possibly life insurance, but you’ll have more freedom in trading the car because you’ll own it.

Buying a car can be an impulsive decision and once that bug has bitten we tend to think with our hearts and not our heads, especially when fuelled by a pushy salesperson. Not everyone has the cash required for a set of wheels readily available and saving is one of the hardest things to do. Whatever position you find yourself, be sure to weigh up your options to find a way to best suit your budget.

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