How to Handle Your Three Largest Purchases

For the vast majority, the three largest purchases people make in their lives are buying a home, helping their children pay for college (or paying for it outright for themselves, the kids, or both), and purchasing cars (if you get two new cars -- one for you and one for the spouse -- every 10 years, the costs really add up.) Since your finances will be greatly impacted by the actions you take when buying these three, I thought I'd list what I consider the "best" ways to handle each of these (knowing that there may be other "best" options depending on a person's circumstances and life goals.) Here goes:

Buying a Home

I listed my thoughts on the best way to buy a home five years ago when I posted My Formula for Buying a House. The keys:

• Live in (or move to) a cheaper area of the country. (And after retirement, you may want to save more by retiring in a foreign country.)


• Buy a house you can easily afford, putting at least 20% down.


• Put extra payments into your budget.


• Put bonuses, gifts, second job income and all other "extra" sources of money into paying off the loan.


• Become debt free in 7-10 years.

Taking these steps allowed me to pay off my mortgage several years ago. The last time I had a mortgage payment was around 1997. Imagine what your life would be like with no mortgage payment. Yes, it's pretty sweet.

Paying for College

Success in paying for college boils down to the same economics we face when we make any other purchase: be sure the cost is worth it -- that you'll get more out of it than you put in. If you take steps to make the most of your college degree, it's very likely that going to college will be one of the best financial decisions you ever make. It certainly was for me.

Purchasing Cars

I like to buy new cars (click the link if you want to know why.) I can afford to do this and it's what I prefer, so I do buy new. But if I was asked, I'd say most people would be better off buying a used car with low miles. That said, the prices used cars go for these days is making buying new not as "crazy" as it used to be.

Whether you buy new or used, here's what I'd recommend:

• Save up for the purchase in advance and pay cash (I'd take a 0% deal if they offered it, but most people pay the full-interest rates the car companies/banks offer. That's a big no-no IMO.)


• Buy a car using the web. Not sure how this would work with a used car, but it works like a dream when buying a new car. Here's the simple new car email I use to get the best deal possible. And for specifics, here are the details on my most recent new car purchase.

So, that's my take on how to spend several hundreds of thousands of dollars over the course of your lifetime. Any comments?

Comments

[Ginger]

I have no desire to be debt free in 7-10 years. My I bonds are paying me more than my student loans or mortgage. I plan to rent out my duplex fully when we move and I'd rather pay more some interest and be able to buy another property when we move.
I do agree with buying a car using the web and having the money to pay for the purchase in cash but I will use the car loan if it is less than what I can get on my cash savings (I bond, online checking or savings).

[Dan]

FMF,
If you had 0% financing over 60 months on a car, would you pay it off aggressively? My wife and I have two 2010 cars financed at 0% over 60 months ($575 total monthly payment, $25,000 total outstanding debt). We have no other debt and a fully-funded 6 month emergency fund. We could probably pay the cars off in 6-8 months without touching the emergency fund if we didn't contribute to retirement at the same time.

We're going back and forth on the issue and I thought I'd get everyone's thoughts.

Thanks.

[FMF]

Dan --

No, I wouldn't pay it off.

We had 0% for two years with my last car and took it. It was a hassle to make monthly payments, but since there was no interest it was a better deal to take the offer.

One issue to consider: the impact on your credit score (which can cost you more in other areas.) I'm not sure how taking a 0% deal changes your score - could hurt it or could help it.

[Jonathan]

Dan,

I wouldn't pay it off either. I'd much rather earn something on it in the meantime, plus have the flexibility that having the cash offers. Trent at The Simple Dollar actually answered this question in his reader mailbag today, though, and he brought up a good point - if you're not disciplined and will spend money just sitting around, or have a history of poor investments, THEN you may be better off paying the loan down. He also says you'd pay it down to free up cash flow, but having the cash in the bank offers more protection for cash purposes than paying off free debt.

FMF, as far as the payments being a hassle, many banks will allow you to set up automatic payments. In fact, in my experience they even offer interest rate reductions for having auto-debits from an account with the same bank. I haven't had to spend a second making payments on my car in the past 58 months, as it's all been automatic.

[Jonathan]

House: Rent. Don't buy. (Depends on location)
College: Trade school. Or CC first then transfer.
Car: Buy used. 0% deal can be OK deal.

[Jonathan]

I definitely agree that getting a cheaper home than "conventional wisdom" says you can afford is a great idea - but I don't agree with all of the tips.

1) Moving to a cheaper area of the country is often impractical for a number of reasons, including preference; but a primary one is that the type or quality of your job may not be available in cheaper areas.

2) I agree with putting at least 20% down and getting cheaper than you can afford. Mortgages are often the largest single monthly expense for people, and shaving even a small percent off the price can free up a lot of cash flow.

3) Many people would be well-advised to pay down the debt aggressively (those with poor financial intelligence or discipline), but I wouldn't. Mortgage debt is both fairly cheap (especially now), and very common (i.e. it's not a red flag when applying for credit). Additionally, it offers tax benefits that many other kinds of debt do not. I'm actively trying to lock up as much cheap mortgage debt (in investment properties that are cash flow positive) as possible right now while properties and interest are cheap.

Again, becoming debt free (or at least mortgage debt free) would be great, except that I'd rather be paying my 5% on mortgage debt to make 15-20% on the underlying assets. If I aggressively paid off all of the mortgage debt, I'd have much less cash to invest in more cash-flow-producing assets.

[Jonathan]

Haha, okay there are two Jonathans posting comments at the same time. I posted the 1st and 3rd comment, the other guy posted the 2nd.

[indio]

I don't have any debt besides my mortgage. The last time I ran my credit card report they wanted to see some revolving debt, like a car loan, to boost my fico score. At 0% I think it could help you if you automated the payments and didn't miss any. My car is 8 yrs old and I didn't feel like spending the time researching and buying a new car so I'm content with my fico being in the low end of excellent rather than in the middle range.

[Dan]

@FMF and @Jonathan,
Thanks for the feedback. We were really 50/50 on the issue and now will likely continue saving for retirement and saving cash towards specific goals rather than hurrying to pay off the cars.

Dan

[Evan H.]

@Dan

Yes, don't pull the plug on your retirement savings to pay of the cars.

[Rich Schmidt]

I'll comment out of order...

* College - No comment. No kids yet, so we're not really saving specifically for it yet. My wife and I were both fortunate/blessed to have no education debt thanks to scholarships and our parents/grandparents. We hope to do the same for our kids someday.

* Cars - We like to buy new. We've just paid off our second car earlier this year, so now we're continuing to make the same monthly payment into an ING Direct savings account (automatically pulled from our checking, just like the car payment was). As long as our older car lasts another 3 years and the newer one lasts 6, we should be able to pay cash for our cars from here on out. The longer our current cars last, the more we'll have saved to buy the next ones.

* House - I'm torn right now on making extra payments or not. We just moved into a new house, and part of me thinks we should wait a year or two to make sure we have cash to cover any repair issues that may arise. (Our "new" house is a brick Victorian built in 1886 with 2 apartments on the 3rd floor. We love it!) So as much as I want to knock some years and interest payments off our mortgage, I think we'll wait a year or two to begin.

Apart from that, if you can't afford to put 20% down, I don't think it's the end of the world... so long as you've chosen a house you can easily afford, so that the monthly mortgage payments aren't strangling you. We didn't put 20% down on the first two houses we bought, but we chose our houses wisely and lived well within our means, so it wasn't an issue.

[Georgia]

Our housing expenses went as follows:
first 2 years - rented in a large city
years 3-8 worked for farmers, home provided
years 9-22 lived on mother-in-law's farm
years 22-32 bought a home in small town
for all of $7,500.
years 33-45 lived in a old (48 yrs. now)
double wide trailer & lot - cost - O
Makes we wonder how we ended up with so little in savings. But, the wages we made were not topnotch by any means. Especially working for the farmers. But it was what my husband loved.

With all the low income we've only owned one new vehicle (1966 Ford pickup) and it took 7 years to pay off. Local banker was a gem. Whenever I apologized for small payments, he assured me that he had customers with huge loans that hadn't paid him in 3-5 years. He knew that if we got $10 extra, he got it.

My college - 2 years for $1,600 for room and tuition, full load. Also I worked a lot, usually 48 hrs. a week.

I am not rich in my old age, but I have my own SS, my small retirement and my husband's smaller retirement, I have a 503b with less than $100k that should last me for nearly 20 years, as I only take out the minimum each year and use it to fix up my trailer. I have a new insulated steel roof, all new insulated siding and all new double paned windows. Inside have only put down laminated wood on the front half of the floors and am working on getting one bathroom up-to-date. It must last me the rest of my life, hopefully. So far, since 2006, I have withdrawn $15k, but am only down about $3k. It has paid well.