To borrow, or not to borrow…that is the question. Not for me; I don’t borrow money.
It is easy for those of us recovering from a debt binge earlier in life to declare we will never again borrow money. However, life is not without temptation, and sometimes the temptation has less to do with the acquisition of stuff, and more to do with things like cash flow, interest rates, and other more sophisticated finance concepts.
For instance, take the issue of cash flow. Let’s assume I am interested in a new (to me) pickup truck. I find a good deal on a late model used truck for $18,000, and I can finance the truck through my credit union at 2.99%. I find a similar good deal at the dealership on a new truck for $25,000, at zero percent interest, and have plans to make it a million mile pickup truck.
The obvious savings can be realized by choosing the used truck over the new one. Further, I could pay cash that I’ve been saving up and avoid the 2.99% interest, and any other fees associated with financing a car. However, that would leave me $18,000 less in savings. Do I care? Maybe.
Let’s also assume I have about $25,000 in savings. Paying cash for the used truck would drop my cash reserves down to $7,000, well below my comfort level for emergency savings. Paying cash for the new truck would leave me with nothing.
Financing the new truck at zero-percent interest is an attractive option. I’d likely only have to pay a couple thousand dollars the day I purchase the truck (for tax, tag, title, etc.), preserving $23,000 of savings for other emergencies.
Of course, my monthly payments will be higher because I’m financing a larger amount, which cuts into my monthly cash flow. And it is a significant obligation to take on a payment of a few hundred dollars every month for 48, 60, or 72 months.
What’s Missing from the Calculations? Risk
This is where the decision gets easier for me. I would much rather pay cash for something up front and own it, rather than be obligated to make payments for many years into the future. Agreeing to the latter adds significant risk to my life.
What if I lose my job in a year and can no longer make payments? What if I decide I’d like to downsize my lifestyle and take a lower paying job doing something I love? What if I got sick and had to live on long-term disability?
It would be much easier to face those circumstance minus a car loan, but is the reduction of risk worth such a large cash outlay? No. Not for me. Which brings me back to the original dilemma – borrow or pay cash. I say neither, given the scenario I presented.
I’ve been in debt, and never again will I go back. I’ve stayed awake at night wondering how I’d pay all our bills. I have stressed over money. I’ve allowed debt to drive life’s decisions for too much of my life. To put it blunty: being in debt sucks.
A Third Option: Do Nothing
If I was faced with this dilemma I would choose option 3 – wait. Wait to save up cash above and beyond our minimum emergency fund requirement.
If I had a solid emergency fund, and another $18,000 in cash earmarked for a new truck, great, let’s pay cash.
If I wanted the new truck for $25,000? Keep saving until I had enough to pay cash without touching emergency funds.
If I needed a truck right now because my current one is beyond repair? Find a used one for $5,000, pay cash, and move up later.
But I Have No Savings and I Need a New…
The point it we always have options, even when we think we don’t. Often times people buy a new car when their current car dies, and they find themselves in a pinch. Of course they finance that new car because they have not planned for their current car’s demise. All cars die. It’s just a matter of time. Might as well start saving for it now.
This discussion should not be limited to cars. Washing machines break. Televisions die. Computers fry. Sofas and recliners eventually get uncomfortable and need replacing. Start thinking about the demise of the things you own today, and plan for their replacement so you won’t be surprised tomorrow.
I suggest saving in sinking funds and targeted savings accounts for these types of events. We maintain savings accounts dedicated to things like home repairs, auto repairs, a new recliner (ours is pretty worn out), a new computer, etc.
When something breaks and needs repair or replacement we don’t have to talk to a loan officer to finance the crisis, we simply write a check from our emergency savings and move on. Even if you can only afford to put back $20 from your next paycheck towards the next emergency, do it.
That $20 every paycheck will soon grow to a $200 reserve – enough to cover a minor auto repair, or replacement part for your refrigerator when it quits cooling. You’ll be so glad you saved money all those weeks, and can finally begin to free yourself from the chains of debt.