Chapter 5
Making Automobile and
Housing Decisions: Auto
Financing
Based on Personal Financial Planning by Gitman, Joehnk, and Billingsley, Cengage, 12e, 2011. Slides by Dorla Evans, FIN 100, The University of Alabama in
Huntsville.
1
Cheap financing or rebate?
Assuming no down payment
SALE! SALE!
and a 36 month loan:
1%* FINANCING OR $1,500 REBATE
FULLY LOADED MUSTANG Bank: PV = $22,500 – $1,500 =
$21,000, i = 5/12, n = 36
PMT = $629.39
1% APR: PV = $22,500 i = 1/12,
only $22,500
n = 36
*1% APR on 36 month loan.
PMT = $634.68
If banks are making 5% car
loans, should you choose the
1% financing or $1,500 The best deal?
rebate?
2
Effective Annual Interest Rate
How to lie, cheat, and SHADY CARS
steal with interest
rates: Going out for
business sale!
Assume you buy a
$10,000 car from this
$10,000 instant credit!
dealer and agree to 12% simple interest!
the above credit Three years to pay!
terms. Low, low monthly
payments!
What is the APR of
this loan?
3
Effective Annual Interest Rate
You borrow $10,000 today at 12% per year
for three years. You will owe
$10,000 + (10,000 * .12 * 3) = $13,600.
Make 36 low, low payments of $13,600/36 =
$377.78
Is this a 12% loan?
4
Is this a 12% loan?
PVA = $10,000 What should
PMT = -$377.78 payment be?
n = 36 PV = $10,000
i = 1.766% per month n = 36
i = 12/12 = 1%
APR = 12 x 1.766% = PMT = $332.14
21.19%
APR = 12%
5
Car Loans Outlast Car*
Up to 8 years! 6 and 7
years more common
Higher down payments
in some cases
Carry 1% to 2% higher
rates
Mostly luxury vehicles >
$40K
* WSJ 9/30/03 6
Car Loans Outlast Car
$25,000 loan
8%, 8 yr: $353
5%, 5 yr: $472
But pay extra $5,568 over
life of loan
Car may be worth less
than loan at end
Avoid or prepay these
long loans
7
Car Lenders
Credit Union Ford Credit
http://www.alabamacu.com/ www.fordvehicles.com
Bank E-Loan
www.eloan.com
Capital One Auto
Finance
www.capitaloneautofinance.com
8
Leasing Alternatives
Financing, not a purchase decision
Closed-end leases, or walk-away leases
Car returned in agreed upon condition
Purchase option
Dealer is responsible for resale
80% of leases
9
Leasing Alternatives
Open-end leases
Car worth less
after lease than
estimated?
You pay the
difference!
Run….
10
Monthly Lease Payment Factors
Depreciation of car’s value
Agreed-upon price (negotiate price before
you mention leasing)
Residual value
Down payment or trade allowance
Rent, or finance charge
Up-front fees
Length of the lease
11
Lease Versus Buy: Lease
1. Down payment ($2,500) and security deposit $2,900
($400)
Monthly lease payment
($25,000 – residual value of $10,000 = $15,000)
PVA = $15,000; n=36; i=3%/12; PMT = $436.22
2. Total payments over lease ($436.22 x 36) $15,704
3. Opportunity cost of initial payment ($2,900 x .05 $435
x 3 years)
4. End of lease charges $0
5. Less: Refund of security deposit ($400)
Total cost of leasing (1 + 2 + 3 + 4 – 5) $18,639
12
Lease Versus Buy: Buy
1. Agreed-upon purchase price $25,000
2. Down payment (20%) $5,000
Monthly loan payment
(PVA = $20,000; n=36; i=8%/12; PMT = $626.73)
3. Total loan payments ($626.73 x 36) $22,562
4. Opportunity cost of down payment (5% x $5,000 x $750
3 years)
5. Less expected market value at end of loan $10,000
Total cost of buying (2 + 3 + 4 – 5) $18,312
13
Lease Versus Buy: Decide
Buy $18,312
Lease $18,639
Diff $ (327)
BUY!
14
Buying Your Car at End of Lease
2001 leasing firms lost an average of $2.9K
on every returned car!
Negotiate the price
Banks more willing to negotiate than car
dealers
Check out value of car at www.Edmund.com
or www.kbb.com
15
Example
C. DeStafano wanted to
buy her 1999 Honda
Accord
Contract said the price
would be $16,700
She offered $14,000
Bank agreed to $14,400
16
Questions?
17