Fancy Car Or Expensive Holiday

After my last post on ways to waste your money, one of my friends came to me and asked about why I had not included fancy cars on the list. You could argue that a ride in a fancy car could come under activities, or that learning covers off car mechanics, but neither are really a justification for owning a fancy (read: expensive) car. There is a reason for that, I am not a fan of fancy cars. Or more specifically, I am not a fan of the cost implications of fancy cars.

What’s Wrong With A Fancy Car?

There is almost nothing worse for the average persons personal finance than owning an expensive car. With a very few exceptions a car (even inexpensive ones) depreciate in value. That means that if you buy the car tomorrow it will cost you less than it would today. Financially this depreciation tends to be a bad thing – your asset loses money. Tax savings may decrease the blow, but a smaller negative number is still negative.

For an extreme example, imagine if the Ferrari you wanted to buy for $300k today would only cost you $150k in a months time. Bargain! I think most people would be happy to wait. The thing about this deflation is that it is normally a percentage decrease. This has the opposite effect to that of compound interest. Compound interest has a slow start and then starts to take off as more money comes in from the interest that was from other interest. For depreciation, it starts off fast, loosing large amounts in the beginning and then less and less as time goes on. So it is at the start of an assets depreciation that the most damage to its value is done.

Now, if you are reading that thinking “what did he just say” then allow me to provide a graph to explain. The numbers are picked based on some recent shopping I did, feel free to adjust as needed.

The graph consists of a new car (blue), a second hand car (orange), a holiday (green) and inflation (purple). For the illustration I have made the holiday cost rise slightly faster than inflation, but mostly so you can see the two lines. The important part is that after five years the new car lost $19,000, the old car lost only $6,000 (but still a loss), where as the holiday and inflation are more (I will get to that later).

A quick story to end the car talk.

I went to buy a new car not too long ago, and one of the dealers told me their brand was much better than others because it retained over 63% of its value after three years. My mouth almost hit the floor. I have only ever owned very second hand cars before. He was telling me that over a third of this new cars value would be gone in three years, and that it was a good thing! Unfortunately for him, all it convinced me to do was buy a second hand six year old car for a third of the price original price.

Lesson: cars suck money out of your net worth.

Don’t Tell Me Not To Take A Holiday!

Let’s get this out of the way up front, taking a holiday will cost money. If you don’t take a holiday then you will be better off financially. Your Excel workbook will look better, and you will have a larger balance at the end of the year. But life is not lived in Excel. As I mentioned when talking about ways to waste money, a holiday is my favourite method of wasting money. So don’t worry, I won’t tell you not to take a holiday. Just be wise in your spending, and the number and type of holidays you take.

So, with that out of the way, I am actually here to convince you that you should take a holiday now and buy your car later. Imagine that, a finance blog recommending a holiday.

To help me out I turn back to inflation vs deflation, or the change in price/worth over time. While the price of things around us can vary, the overall trend tends to be a small amount of inflation (or increase) each year. This means that things cost just a little bit more each year. So in general our magnificent holiday will cost just a little bit more next year.

Look at the graph above again. Every year you wait to buy your car, you pay less. But every year later you take that holiday the amount you pay will increase! That is because cars deflate over time. So it is better to wait as long as you can to buy them so the price can drop. With items that inflate (like the price of our holiday) it is better to buy them now before the price goes up. Of course investing your money, even just in the bank, may give you better returns than the “savings” you get from buying a holiday now – but this is about spending your money. You are buying your holiday with savings right?!?

In ten years a $40k new car will be worth about $10k, where as your $10k holiday will be “worth” or will cost you $13k. Would you prefer to spend $40k today for an asset that will be worth $10k in ten years, or spend $10k today for a holiday that would cost $13k to take in ten years? I vote for a cheap car (that you have already waited for – i.e. second hand) and a nice holiday. Which is exactly what I did last year.

You never know, with enough inflation those holiday memories really may become priceless :).

Where do you sit on the car vs holiday scale? Do you need a new car? Do you think holidays are also not worth it? I would love to hear your thoughts.

Some Fine Print

I would like to add two caveats to my second hand car statements:

1. As cars get really old their maintenance and repair costs have the potential to grow to a point where it is cheeper to buy another (second hand) car than replace the broken parts.
2. Sometimes there is a more important reason than money to upgrade. A prime example is safety. The addition of airbags, anti-lock breaks and electronic stability control in newer cars was a large factor for my recent upgrade.