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Yesterday, while driving around town to complete errands in my fuel-efficient, three-year-old Hyundai Sonata, I found myself waiting at a lengthy stop light. Naturally, the wait annoyed me to some degree, as I was the only car in sight. However, Moonlight (my wife’s affectionate name for our Hyundai) and I weren’t alone for long, as we were soon joined by a sleek, shiny 2016 Audi A8 Sedan.
While I am admittedly a car lover, I must admit that my interest was divided equally between the A8 and its driver. Why? The driver could not have been a day older than 25, by my observation, and naturally, the Finance Superhero in me could not compute many scenarios in which this young man could afford such a fine vehicle.
I know what many of you are thinking:
- Good for him! This fellow has clearly done well for himself.
- Did you strike up a newfound friendship with Mr. A8?
- Age is hard to predict; maybe this hot shot is older than he looks.
- Weren’t you jealous?
Jealous? While others may have felt envy, I only felt pity.
Yes, it is quite possible that this driver was closer to 35 than 25. It is possible that he is a new partner at a leading law or accounting firm. However, statistics dictate that it is more likely that he is a 20-something who earns slightly above the median US adjusted gross income ($36,841 in tax year 2013, according to IRS.gov). Regardless, I assert that the driver’s income is a variable that pales in comparison to the opportunity cost in driving such a fine vehicle.
I Hope He Likes the Car
Except in cases of significant wealth, the luxury vehicle represents one of the largest financial boat anchors in the lives of Americans. It is a formidable villain capable of derailing one’s budget, dreams of financial independence, and even hopes for a modest retirement.
Let us assume, for the purposes of illustration, that Mr. A8 is leasing his vehicle. The current manufacturer lease offer for this vehicle is $899 per month for 36 months with $4,644 cash due at the time of signing. This represents a total cost of $37,008 over three years, or $12,336 per year! Should I don my cape and rescue this fellow from his foolishness?
What’s that? You’re still not convinced that Mr. A8 isn’t getting a fine deal?
Let’s assume that Mr. A8 utilized the $4,644 cash due at signing on the Audi and instead purchased a much more affordable yet attractive vehicle. For example, suppose he found a deal on a 2004 Honda Accord and stretches his budget to $5,000. In this scenario, he would not have any monthly auto expenses, aside from gasoline and regular repairs. This would free up $899 per month!
How might a Finance Superhero manage these additional funds? Here’s a suggested monthly breakdown (rounding up to $900 for the sake of simplicity):
$400 placed in a money market account as a sinking fund designated for the purchase of a replacement vehicle when the Accord goes to the junkyard in the sky
$500 invested in a company 401k/403b, up the company match, with remaining funds invested in a Roth IRA
Again, for the sake of simplicity, let us suppose that our 25 year old driver’s investments earn an average return (after inflation, the generally-accepted return figure for the S&P 500 is approximately 7%) and is compounded monthly. After thirty six months, our developing Superhero would have just over $20,000 combined in his 401k/403b and Roth IRA accounts, not including any company matching. Additionally, he would have $14,402.22 saved in his money market account (assuming a very non-Superhero interest rate of .01%) toward the purchase of a future vehicle. If he continued investing this same amount each month until age 65, he would be poised to retire with investment accounts valued at approximately $1.3 million.
I hope Mr. A8 really likes his fancy car!
Despite the fairly simple math above, which clearly illustrates the disastrous opportunity cost of leasing such an expensive luxury vehicle, some people may still wish to raise objections. As a developing Finance Superhero, it is your duty to gently correct people when the following objections are raised.
I need a luxury vehicle for work purposes.
I understand that for many professionals, the appearance of one’s vehicle is of high importance. However, a 3-4 year old Honda Accord or even 10 year old BMW will get the job done. A Finance Superhero uses his brain, remains persistent, saves money, and like Finance Superhero Grandpa, flashes cash to secure a great deal.
I am not handy when it comes to automotive maintenance, so a lease makes sense for me.
Let me count the reasons that this objection rarely rings true. First, in 2016, very few people are capable of maintaining their own vehicles beyond routine fluid changes, brake replacement, and tire rotations. Leasing a vehicle does not eliminate maintenance costs. And no, maintenance is not free with a lease. You are paying for it, as the costs are built in somewhere.
Second, new vehicles are often subject to repairs that will later be addressed by manufacturer recall. Strategically purchasing used vehicles which have already had these concerns addressed and repaired and have already had their 50-60k mile maintenance performed is a much better way to go.
With a lease, I can drive a new car every two or three years.
Listen. You need to make a decision. We are talking about your vehicle or your retirement! Which do you want more? 65 year-old you will want to kick 25 year-old you in the butt for being stupid and leasing a vehicle when you could follow the simple mathematical plan above and still simultaneously fund your retirement AND drive nice vehicles. And 65 year-old you is likely to get that opportunity, as Apple will probably have invented the iTimeMachine by that point. Don’t screw things up for future you!
What are your thoughts on car leases? Does it ever make sense to lease a vehicle? Have you or someone you know ever been burned by a car lease? Share your thoughts in the comments section.