Let’s talk about the logistics of paying for large purchases. As in: When should I get a loan? And how big should that loan be? Should you ever forego a down payment or paying with cash even when you can afford it?
Unlike the suitcase full of dirty laundry you brought home from that conference three whole weeks ago… let’s unpack this! And our favorite way to unpack a problem is with a real-live question from a real-live reader with a real-live dilemma:
Hello sage bitches. My trusty old car is on its way out, and I’m going to need to get a new one soon. I do have enough money in savings to buy it outright without a loan (though it would put a… substantial dent in those savings), but some family members keep saying it might be a better idea to see if I can get a low-interest loan instead, because it “would be good to have paid off a big loan.” I do have a credit score of ~800, so it’s possible that I could get a decent loan, and I have heard a lot of vague things about how it’s good for your credit to have payed off a big purchase before, but something in me hates the idea of having to pay a higher total sum than I have to. Any advice?An anonymous yet glorious citizen of Bitch Nation we’ll call Chickadee
In other words: “Should I get a loan just to improve my credit score even if I can afford to pay cash?”
In this case, step one is: IGNORE YOUR FUCKING FAMILY.
This isn’t a hard-and-fast rule. Sometimes family members have good financial advice! (Especially if their last name is “Buffett” and they live in the greater Omaha area.) Rather, our rule is to ignore financial advice from anyone who doesn’t take into account the nuances of your personal situation.
Chickadee’s family clearly doesn’t understand the full extent of their situation. They’re making a recommendation (“take out a loan!”) based on a faulty premise (“because you need to improve your credit!”). In reality, Chickadee has a perfect credit score! And it’s pretty hard to improve on perfect! (Though it has been done.) They don’t need to beef up their credit score. So therefore… do they really need to take out a loan?
This blind recommendation could be due to a lack of communication among family members. No judgment there—I generally don’t listen to a word my own father says unless it’s “adjust the stop on that table saw,” yet I still love that carpentry-obsessed oldster.
But it also could be something a little more worrying. I suspect that Chickadee’s family simply misunderstands the purpose of credit, and therefore, debt. After all, this stuff is complicated. Sometimes you just need an impartial juror!
Understand the point of good credit
Here are two ridiculously simplified tenets of personal finance:
- The point of having good credit is to get fair loans when you need them.
- The point of getting a loan when you don’t need one is to build good credit.
Chickadee has excellent credit AND can afford this car without a loan. So getting an auto loan right now would be a neutral move for their credit score. But more importantly, it would cost them extra money in interest on top of the price of the car. Completely unnecessarily.
If they couldn’t afford to pay cash, a loan would be clutch! And with a credit score of around 800, they’d probably get pretty great terms. Sure, they’d pay interest on the auto loan. But that’s the price they’d pay to borrow the money. Totally legit.
If, on the other hand, their credit score were a lowly 400, then taking out an auto loan could give them the opportunity to repair that score. The terms wouldn’t be as generous as they would be with a high credit score (i.e., they’d get a higher interest rate and therefore pay mo’ money). But repaying debt on time is a proven way to drive up your credit score.
We go into exhausting detail on how credit works here:
- Dafuq Is Credit and How Do You Bend It to Your Will?
- Ask the Bitches: What’s the Difference Between Credit Checks and Credit Monitoring?
- How to Build Good Credit Without Going Into Debt
So does this mean Chickadee absolutely should not get a loan to buy a car? Well, that depends on this next bit.
Understand your personal risk tolerance
Say it with me now: personal finance is personal. That means that when it comes to situations like this, there is no one-size-fits-all-(or-even-most) solution.
Taking on debt is risky. It means you’re betting on your current financial situation remaining the same or even improving, but definitely not worsening. But there’s always a risk with debt that your situation will change for the worse. In that case, you might regret taking out such a large loan when you didn’t have to.
You also might regret spending all your savings when you could’ve gotten a loan. As the great philosopher and shrimp magnate Forrest Gump once said, “Shit happens.” And when it does, you might be grateful you didn’t spend every last dime on a car.
If you have LOW risk tolerance…
Get a loan for part of the cost.
If you don’t want to completely liquidate your savings, you can pay for the car partially with cash up front, and get a small loan for the rest of the cost of the vehicle. That’s a perfectly reasonable and cautious choice!
Whether you pay for half, or two thirds, or 25%… that’s up to you, my friend. Your personal level of risk tolerance will determine how much of your savings you want to send merrily off into the clutches of the car dealership. And, therefore, how large of a loan you’ll need to complete the transaction.
Note that I did NOT recommend getting a loan for the entire cost of the car. Down payments are important, y’all!
If you have HIGH risk tolerance…
Pay for the purchase entirely with cash.
It’s the cheapest way to finance your vehicle and it’ll save you the most money over time. After all, you’ll be paying exactly what it says on the price tag (plus tax—THANKS OBAMA), without a single cent of interest.
Besides, you’ve already proven you’re a talented saver! If you keep saving at your current rate, you’ll build back what you spent on the car in no time. Sure, you run the risk of regretting liquidating your entire savings fund when some unforeseen emergency pops up before you’ve padded your pockets with Benjamins again. But if you have a high risk tolerance, that’s a risk you’re willing to take!
Both are valid choices. But you should make that choice based on your personal risk tolerance where your savings are concerned, not based on “how it’s good for your credit to have payed off a big purchase.” Because your credit is great.
Good luck to Chickadee and all our darling baby bitchlings who are deciding on loans! Here’s more of what we have to say about making choices like this and buying a whole ass car:
- How to Make Any Financial Decision, No Matter How Tough, with Maximum Swag
- Buying a Car with the Bitches, Part 2: How to Pay for Your Car
- Dafuq Is a Down Payment? And Why Do You Need One to Buy Stuff?
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