The cost of car ownership - part 2
Lechedzani Pitso | Monday May 5, 2014 13:56
This week, let’s look at buying a new car. Car purchase: new or old?
Buying a new car outright is something that few people can do – they simply don’t have enough cash saved up.
So why do we see new cars on our streets? – It’s simple, they are sold using credit – debt that their owners borrow from the bank and pay off over a period of years. Those people tend not to look at the overall price of the car – just the monthly repayment.
Why buy new?
It’s an obvious luxury to drive a brand new car, but there are only two valid reasons to buy one. Firstly, banks won’t lend money to purchase older cars. Secondly, there’s a ‘service plan’ that means the dealership will maintain the car for free over a period of time.
Of course, with a second hand car, you don’t know how well it has been treated, how regularly it’s been serviced, or even how many kilometres it has driven (top tip: never trust the mileage clock on a second hand vehicle – most have been ‘wound back’ – so only trust a fully stamped service record)
Initial deposit
As soon as you drive a new car off the garage forecourt, it is worth about 10% less than you paid for it. If you want to sell the car back to the garage with 100kms on the clock you will lose this amount, plus the VAT.
Because of this, the bank always requires you to put down an initial deposit when they give you a car loan. That’s usually a minimum of 10% of the vehicle value. The rest of the price you owe to the bank. For a vehicle costing P400,000 new, the initial deposit would be P40,000, and you’d owe the bank P360,000.
Interest charges
The remaining 90% of the value of the vehicle must be repaid to the bank over a period of (up to) 5 years. Banks are unlikely to lend to you for more than 5 years because they know that after this time the car will be worth less than half its new price.
The Prime interest rate at the moment is 9 percent. You might be quoted at Prime plus 6 percent - meaning your interest deduction is 15% of the value outstanding each year.
Owing the bank P360,000 and paying it off in full over 5 years at 15% interest would mean monthly repayments of about P8,564.
Negotiate!
As we always say – negotiate with your lenders. If you’re going to buy a car on credit, try to get your interest rate as close to Prime as is possible. Reducing the interest rate from 15% to 10% would result in a saving of P915 per month on your repayments – that’s nearly P55,000 over the 5 year payment period.
Other charges
Your lender may want to add on costs of life insurance to your repayments – why? Because they want to be paid out if you die.
The purpose of a credit life policy is simply to repay your lender on your death. If you already have life insurance talk to your lender about using this to cover your car liability.
Check your statement!
By looking at your repayment statement each month when it arrives, you can see whether there are any odd amounts to query. You can also check you’re getting the best interest rate.
We’ve come across statements where the interest is charged on the full vehicle cost every month – that’s not right since part of your payment goes towards reducing the amount that you owe.
Depreciation
We saw in the previous article that vehicles depreciate in value as they get older. Typically, new cars lose 10% value in the first month, then another 10% in the first year, and 10% per year after that.
That means in 5 years, the value of your vehicle is about half what you paid for it:
Special offers
Occasionally you’ll see car adverts with lower than usual monthly repayments. Remember that there is nothing for free in life, and always ask: “what’s the ‘catch’?”
Often, the problem is that there’s a larger up-front deposit and there’s a ‘balloon payment’ to make. This is a final payment which is much larger than the regular monthly payments. Let’s say that the upfront deposit is 25%, and the balloon payment is P200,000. With yearly interest of 10% that would reduce the monthly repayment to P3,791 – that’s very cheap for a P400,000 car. But, hang on, you’ve paid 25% upfront (P100,000) and you’ll pay P200,000 - the majority of the money from selling the car - at the end of 5 years. So where’s the value in doing this?
Other costs
While you won’t have to pay for servicing and breakdowns with a new car, you’ll still have to pay for car insurance and fuel for it. Car insurance is compulsory if you have borrowed money to buy it. You have to have it in case you crash the car and can’t repay the bank – and it might cost you 6 percent per year of the value of the car. That’s P2,000 per month on a P400,000 car.
Remember, you don’t have to use the insurance that the dealership recommends. Shop around for the best deal. Fuel, as we looked at last week, will probably cost you about P70 for 100kms. Driving 20,000kms will cost you P14,000 per year.
The total cost of motoring
Adding these up gives the total cost of 5 years motoring as P714,694. All you have to show for it at the end are memories and a car worth P212,576. Is it worth it?
Rule of thumb to stick to:
(a) If you buy on credit, don’t drive a car worth more than 6 months of your take-home salary
(b) If you buy with cash, don’t drive a car worth more than 10% of your total wealth.Thus, if you earn P10,000 per month, don’t drive a car worth more than P60,000. Equally, if you have properties, cattle and investments worth P800,000, don’t drive a car worth more than P80,000.
Author: Lechedzani Pitso – Financial Wellness Trainer with S.C.I. Training (Pty) Ltd. © S.C.I. Training runs financial wellness programmes in Botswana. For help and information contact them on 3180243 or 72309718 or leche@wellness.co.bw