Dave Ramsey, if you’re reading this, I’m sorry! This post is slightly different than many of my previous ones because I’m going to tell you all about why I choose NOT to pay my car off.
I know, I know but please hear me out.
Two years ago I bought my first brand new car! It was the biggest financial decision I had ever made at that point and it was something I gave a lot of thought to. My previous car was a little older and while nothing was terribly wrong with it, it was starting to get to the point where it would need some repairs/work done on it and I explored the option of a new car instead.
I’ve never been crazy about fancy cars or had any interest in buying something way above my means just to look cool, but I drive over 20,000 miles per year so I definitely wanted a good reliable car. I opted for a brand new Honda Civic and I absolutely love it.
Did I need to buy a brand new car? Of course not! However, I figured if I was going to be driving so much I wanted something that I’d love and that would last me a very long time.
The car was bought a year after I graduated college and I did not have the money to pay cash for it at that time so I took out an auto loan.
I now have 3 years to go to pay it off and I have more than enough cash to pay it off, but I choose not to. Welcome to the part of this that Dave Ramsey would scold me for lol.
There are two main reasons I don’t pay my car off:
My payment is really small so it’s not a huge burden for me to pay it every month. It’s less than 5% of my monthly income. When I was looking for a new car, I made sure to stick within a range that wouldn’t leave me with a giant car payment every month.
Opportunity cost – this is the main reason I don’t pay my car off. In economics, opportunity cost is defined as the loss of potential gain from other alternatives when one alternative is chosen.
In simpler terms, whenever you choose something, you give up choosing something else. This isn’t only true in economics – it’s true for everything in life. For example, if you decide you are going to go home after work tonight and watch the Bachelorette (totally me tonight, btw – not sorry), then you give up the chance to use that same time to go to the gym or hang out with a friend.
Back to my auto loan:
I have a lump sum of money that is more than enough to cover the remaining balance of my auto loan so I could just pay it all now. If I do that, however, I have to look at what else I could be using that money for and if it is the best choice.
The interest rate on my loan is very low. It’s so low that my online savings account actually pays me an interest rate that makes the interest I pay on my car and the interest I earn on my account break even.
So essentially the interest I pay on my auto loan is covered just from what I earn in my savings account. Aside from just keeping it in my savings account, I can use that money and invest it in the general market and potentially make a decent return on it.
Of course, this comes with a lot more risk and could even end up with me losing money, but it’s a risk I am willing and able to take. This is the main reason I choose not to pay my auto loan off. The opportunity cost of me paying it off is whatever I can earn by investing my money.
If you have money to pay off your loan, I’m not advising that you don’t pay it off. That would be silly of me to do without knowing the whole picture. What I suggest is always look at all your options and run the numbers. If you are being charged a high interest rate, then definitely pay off any debt you have as soon as possible.
If the interest rate is very low, maybe explore other options. Every situation is different and you should always do what’s best for you. You should also always be aware of all the risks associated with every decision you make especially investment decisions.
So if Dave Ramsey is still reading this, I hope he’s slightly less disappointed in me. 🙂 For everyone else, I encourage you to always look for the best ways to make the most out of your money.
Nothing on this blog should be considered personal actionable advice, research, or an invitation to buy or sell any securities. Consider all risks before investing, including the loss of your hard earned money. Vee is an Investment Advisor for Warren Street Wealth Advisors, this blog reflects her personal views, and not that of Warren Street.