Transition From Car Loans To Paying Cash For a Car

Continuing the conversation with my readers on the auto insurance issue, in which I recommend switching to liability insurance once your car’s value gets low, Kellie makes a point that’s worth covering:

I couldn’t get a car loan for my vehicle unless I had full comprehensive on it. So, I can’t switch to just liability until I pay for the entire thing. I wish it were always so cut and dry but it isn’t.

This is yet another example of why paying cash up front for your car is a tremendous deal. I’ve already covered in detail why paying cash is a better deal than getting a loan and a far better deal than getting a lease, conclusions that Money Magazine agrees with me on, but the truth of the matter is that it’s not easy to put yourself in a position to pay cash for a car, especially if you’re just getting started.

So, here’s a plan for how you can actually put yourself in a position to pay cash for a future automobile purchase without changing your current budget. Sound good? Here’s what you do:

1. Buy a late model used car on a loan. I’m somewhat assuming that you’ve already done this. If you’re on a lease, don’t get into another one when you’re finished. Switch to a late model used and start making the payments on it.

2. Make your payments on that car automatically. Set up your accounts so that this bill is paid automatically. This is very important; you need to get into a routine of just knowing that that amount is going away each month and that it’s not part of your routine budget.

3. When the car is paid off, start an automatic savings plan with a high-yield savings account that deducts the exact same amount as the car payment you’re already used to paying. No change to your monthly budget or spending at all.

4. Put liability insurance on your current car and put the insurance difference automatically into the new account, too. Again, no different than before in terms of your monthly budget.

5. Drive the car until something puts it out of commission – or until it’s starting to really worry you or make you uncomfortable. A few minor repairs are probably worth it, but when you hit upon something big – or it’s showing clear signs of approaching a major repair – now’s the time to move onto the next step.

6. Clean out the account, trade in your old car, and buy another one! Don’t forget to maximize your deal on any car purchase. You should have enough cash and trade value to pay for a very large portion of the car, if not all of it. If you have to borrow to make the deal, get the shortest term loan possible and go back to step two.

7. Don’t stop the savings plan! You might want to switch back to comprehensive insurance on your new car at this point, which is fine, but keep putting the rest away into your savings account. The next time around, you’ll be able to perhaps get something even nicer – I have a friend who was able to buy a BMW using basically this exact plan (albeit with pretty high amounts each month).

Writing a check for a car is a great feeling – you have a fresh automobile without any of the debt burden. It is exhilirating to walk off the lot with a car that’s good for several years of driving and no additional debt.