Ask a typical person on the street whether you should buy a large purchase with cash (if you have it), or if taking out a loan is wiser. Most people would probably instantly say, “Cash, of course, if you have it!” But, let’s take a common example to look at this: Let’s say we are talking about buying a car.
A decent car is one of the biggest purchases you will ever make. If you are fortunate enough to have the cash on hand, it could be tempting to buy a car outright. First, if you have one, listen to what your financial planner has to say about this course of action: he or she might advise you to take out a loan instead. There are pros and cons either way.
Pros of Buying a Car with Cash
The big win here is that there are no more payments to make. You own the car and can sell it if you need money in a hurry. If you have managed to save enough for a vehicle and put the cash aside for that purpose, you won’t mind seeing the money put to that use. A loan costs the same amount even when your car is worth less, which it is every single day once you buy it. Borrowing will cost you money for months.
Cons of Buying a Car with Cash
Now your security blanket is gone; that extra money you could have used to cover an emergency if the need arose. While the car is yours to sell, that can take time and, in an emergency, you might be forced to sell at a huge loss in order to raise funds hastily.
Pros of Working with a Lending Institution
When you borrow money to buy a car, the funds you saved are still there, a nest egg reserved for an even more important purchase. A consultant would argue that a holiday is less important than a car or house, but personal reasons might dictate otherwise. If you were to use that sum of money as a down payment on a home, however, your advisor would probably agree the choice you made was a good one.
Furthermore, with the funds you saved it’s only possible to purchase a vehicle you can afford right now, not necessarily the one you want or need. Your family might be too large for the 5-seater hatchback you can pay for with cash. In the job you do, your vehicle also sets an impression which is important as you build a reputation and future wealth.
While loans are costly in the long run, you can always try to secure a low rate of interest, perhaps from a personal lender like a family member. Under these terms repaying what you owe is an opportunity to practice careful money management. Another advantage to arranging a loan officially, especially for young people, is the opportunity it provides to create a credit history. If, after several months, you have successfully repaid what you have borrowed within the terms dictated by your contract, you earn lots of points towards your credit rating. They look great when you apply to your bank for a mortgage.