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The dos and don’ts of car finance

People see a monthly number advertised and think that falls within their budget, without considering the additional expenses involved – Barbara Mundell from the Financial Planning Institute.

[Apologies for some inaudible parts.]

INGÉ LAMPRECHT: South Africans love their cars, and yet a sensible vehicle choice can go a long way in improving your financial situation. What do you need to keep in mind if you do buy a car? How can you ensure you don’t break the bank? These are the questions we are going to discuss tonight.

On the line to discuss the dos and don’ts of car buying is Barbara Mundell from the Financial Planning Institute. Good evening, Barbara.

BARBARA MUNDELL:  Good evening, Ingé.

INGÉ LAMPRECHT:  Barbara, before you go out and test-drive a car, and compare makes and models and specs, what do you think people should consider from a financial planning point of view?

BARBARA MUNDELL:  The first thing people forget about is they just see a monthly number advertised and they think great, this falls within my budget. But they forget about things like your ongoing maintenance on your car, forget about things like your insurance premium on your car, and putting away money for an excess payment should something happen to your car. Those are some of the basic things that people generally forget.

INGÉ LAMPRECHT:  Most banks have what they refer to as an affordability calculator on their website to try and help you determine if you can afford the vehicle. But should you necessarily spend as much as you can afford when buying a car?

BARBARA MUNDELL:  If you look at that affordability calculator, you should take that as an approximate figure for your total spend for your car. You should take that as your financial payment, your insurance repayment, and put some aside as maintenance – because even maintenance can uncover all the things you might need. And then also start a funding account for your excess should something happen and your insurance doesn’t cover the full amount.

INGÉ LAMPRECHT:  Personally I think the first car you buy can have a major impact on your finances in the long run, because it sort of becomes a yardstick for what you will buy in future and the living standard you will have going forward. Do you agree with that?

BARBARA MUNDELL:  Yes, it does. Look at most of the…generation. They tend to want to buy the fancier cars, a fancier car they can’t afford, because they think it will give an impression that they are really successful, instead of building up to where they can buy the luxury car and afford it comfortably later on in their life.

INGÉ LAMPRECHT:  If you choose to finance the car, which most people do, what do you need to keep in mind regarding the term and interest payments?

BARBARA MUNDELL:  The longer you finance your car for, the more typical rands and cents you’ll pay in interest. Some people say ‘my interest rate is 9% on my car’, but it’s financed over a six-year period [rather than] a four-year period or a further period. They tend to forget that over those additional two years that you are paying that payment for, your initial capital instalment is so much less and, as you continue paying, your interest will reduce. So you are paying rands and cents of interest for a longer period of time, compared to just comparing interest rates.

INGÉ LAMPRECHT:  One way of reducing your monthly instalment is to choose an inflated final payment, which is commonly referred to as a balloon payment. Is this a good idea?

BARBARA MUNDELL:  If you … balloon payment on your car finance, then you probably should not buy that car because it means it’s unaffordable to you. Most people forget about the balloon payment. What happens then is when it comes to the end of a period of five years, they then realise they have this balloon payment and often they buy this car at less than the market value, because they do a trade-in for a new car and 90% of the time there’s a balloon payment on the newer car as well. So you are always stuck in this big trap and you never really own your car, the asset. Instead you keep on paying back interest, because generally after a period of time the balloon payment is nearly equal to the value of your car.

INGÉ LAMPRECHT:  Some people use money from their access bond to buy a car, arguing that the interest rate is lower. Is that really a good idea?

BARBARA MUNDELL:  Again, it comes back to the period you repay that debt off equates to higher rand and cents. So if you use your access bond and, let’s say, don’t put additional money away for that period, you will be paying your car off over the remaining period of your bond. If that’s 15 years, you’ll repay your car off over 15 years.

INGÉ LAMPRECHT:  What do you think is better – buying a new car or a used one?

BARBARA MUNDELL:  This is a question that’s often debated, because the new cars come with a lot of bells and whistles. They generally come with a longer maintenance plan, a longer service plan… But if I buy a second-hand car I don’t know how it’s been maintained, I don’t know how it has been driven, so I’m not quite sure what I’m buying. It also depends on your needs and what you will use the car for. If you are going to drive a less kilometres per year, you can look at buying a new car, just making sure you are structuring your finance correctly. Over that period of time that you are paying that car off, if you have a low mileage on it, it should remain relatively maintenance-free.

If you are someone that’s going to be doing a lot of travelling, then it kind of becomes a waste to buy a new car. You should rather look for a second-hand car with low mileage. One thing people always tend to forget when they look at second-hand cars is to look at the service history. They don’t always consult and make sure everything’s fine, and they don’t get an independent mechanic… That’s a couple of rands that you might spend wisely to save you a helluva lot of money later.

INGÉ LAMPRECHT:  Barbara, if you want to save money to buy a car at a later stage, what investment vehicles or products can you consider?

BARBARA MUNDELL:  It’s also going to depend on how far in the future you want to buy your car. If you want to buy your car in the best time, typically you can say…banks, because it’s not subject to market fluctuations…. So after a year you have whatever you’ve saved … which is not a little amount. If you are looking at … you might want to consider putting some of that money into some stocks, bonds, even get a bit of offshore exposure on that, because that will allow you to grow your money slightly higher than it would in a normal savings account.

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The National Credit Regulator SHOULD be acting on these Balloon options. In TOO MANY cases the car will not be worth your final payment. When you have a car that is worth R 109,000 (final 72nd payment) and you owe R 200,000 what do you do? The truth is they will not refinance it because you are upside down! So go to the bank and take out R 91,000 you DON’T have, then refinance the car for another 4 years. Lovely, a 10 year car loan. The reality is they will repossess the car and you will be in the que on the side of the road with your finger up. Holding up 1 finger means “town” I believe? If that word BALLOON comes up run, RUN for your future!! You need Financial Fitness!

Finfit – you just need to be sensible when structuring the deal, and, use the balloon payment judiciously. I structured my car over 72 months, with a 20% balloon payment as I wanted to repay a more manageable monthly premium. Also I had the contract agreed on the basis that from year 2 I could introduce R xx as a capital reduction and that the monthly reduction be reduced. I did this twice in the life of the contract and then paid off the vehicle within 48 months. So you need to cut,dice and slice your contract to suite your needs – just remember the banks want to lend you money. Oh and also negotiate a keener interest rate

You are not supposed to ACTUALLY MAKE the balloon payment. You should buy another car. Why would you actually fork out to BUY a car, when it depreciates every month (unlike a house). The purpose of large balloon payments is to facilitate you buying a suitable vehicle with the lowest monthly outlay. If you work, and need a car, part of your salary should compensate you for this. USE the car, don’t buy it. When your balloon payment is due, give the car back, and lease a new one

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