Fix vs buy: do I really need to consider a car's "value" with depreciation?

Question

I have been thinking about the question of how to determine whether to fix my current or buy a new car. Everything I have read (see, for instance, the answers on this question) talks about determining the value of the car, including depreciation, to determine whether (a) repairs are a good investment or else (b) the car should be considered a total loss and traded in or sold to finance the purchase of something else.

However, from my perspective, this analysis is only appropriate if you are looking at the car as an asset. Instead, I typically think of a car as a liability - leverage I choose to pay for since it enables me to make more money than its cost. Given this mindset, it seems rational to try to minimize the ongoing expense of car ownership; however, from what I can tell, this results in keeping a car until its repair costs meet or at least closely approach the cash price of a new car - not until the repair costs meet or approach the depreciated value of the current car.

That is to say, if I have a car with a depreciated value of $2,000 and the optimal replacement for it costs $10,000, I should rationally be prepared to spend up to $8,000 (perhaps a little less when you consider maintenance schedules and warranties etc.). Everything I read makes it seem like this is foolish. Am I missing anything, or is it just an unusual mindset to consider a car an expense rather than an investment?

I am aware there are two schools of thought around buying homes: one says the primary home is an investment, the other that it is an expense. I suppose this might be a similar distinction except in the case of the car it seems to me to be so clearly an expense rather than an investment that I cannot rationalize even considering the resale value of the car (perhaps choosing a car with a higher scrap value might be rational, all other things being equal).

TL;DR:

If I want to minimize cost of car ownership, is it rational to disregard the resale value (including depreciation) of a car entirely and consider only expected future maintenance compared to the cost of buying and maintaining a replacement?

Answer 1

A car is an asset. Period. Even a completely totalled car can still be sold for scrap metal. One would have to come up with an unlikely scenario, such as it being covered in radioactive ash, for it to be a liability. A house is also an asset. People who say that it's a liability are talking nonsense. A mortgage is a liability, but the house itself is an asset. The money you pay for a car is an expense, but the car itself is not.

"Depreciation" can mean many different things. Ideally, it reflects the loss of value of an asset. However, in accounting there are generally artificial depreciation schedules that are designed more around having a simple, objective formula than in trying to get the exact estimate of the value. "Depreciation" is also often used to refer to the decrease in resale value. While resale value and use value are closely related, they are not the same thing, and if you're not planning on selling your car, then the latter is more relevant.

Now, as for your idea that you should be willing to spend $8k in your scenario: if you do so, you will have paid $8k for a used car. This may indeed be a good value, but concluding it is such based on the logic you've presented is fallacious. A car depreciating $8k doesn't mean that putting $8k into it would make it "equal" to a new car. You seem to be thinking of it like it's a bucket and depreciation is water leaking out of it, and pouring more money into it makes it full again. That's not how depreciation works.

When deciding how much to put into a car, what matters is what the state the car will be in after the work, how much a car in that state is worth to you, and how long it will stay in that state. And really, it's not "What's the total amount I should put into it", it's "When should I stop putting money into it". That is, you should focus on the marginal value of the money you're currently considering spending, not on how much you've spent already. There are cases where the rational thing to do is to walk away from a car after spending a few hundred dollars, and there are cases where it's rational to put in more money after spending tens of thousands. If you have a twenty year old car, and you're satisfied with how it runs, but it costs $500 in maintenance each year, that's $8k over the twenty years. But if it would cost you more than $500/year to buy a new car of equal utility, then it's rational to keep paying.

Answer 2

There's a lot that can go into determining when to buy a different car instead of continuing to fix your current car. I'll cover some of the things I've looked at when making that decision myself.

I consider a vehicle to be an investment. If you don't continually keep up with maintenance (putting in more money and effort), then it'll be a bad investment. If you treat it right, it'll more than pay for itself over the years.

1. Can I afford car payments?

This is #1 for a reason. If you can't afford a reasonable down payment plus $150 or more a month for the payments, plus a sizable increase in your insurance, plus an increase in your yearly registration fees, you can't buy a new car.

To be able to make this easier, it's been recommended to me by others to start paying yourself a car payment's worth every single month (to a savings account essentially) to get used to the idea of paying a car payment as well as sacking it away for the down payment. This is money you don't spend until you need that down payment.

Maybe you only need to buy a different car for $4000 to get a better car. It might not be a Bentley, but it'll still get you where you need to be. Maybe you can get a $10k used car. Maybe you can get a tiny new car for $16k that'll be under warranty for 3-5 years.

If you spend that down payment on the car, do you still have emergency money for others things that might come up? If you have kids, do you still have the money to cover the co-payment on a broken arm? Do you have enough to cover your fridge dying without having to put it on a credit card?

Also, don't rely on a wage increase until you already have it. I've talked with people, or read their stories, where they spend their raise before they got it. Sometimes they spent the raise they never actually got. It almost always ends up in disaster. Not that you said anything about a raise, but I've covering all the bases here.

2. How much are my current repairs costing me?

If your current repairs are costing you significantly less than payments on a different car, keep doing the repairs. Unless you are doing the repairs yourself and spending all your free time on repairs (like I've done previously), it's probably not worth buying a different car.

3. Are your current repairs worse than the unknown repairs of a different car?

Even if you get a different car, there's a high likelihood that it'll be used and it'll need repairs as well. Older cars without extensive electronics are less expensive and easier to repair than newer cars that have a computer sprawling everywhere. Also, newer cars tend to wedge the motor in between all the gadgets, making for little room to do repairs under the hood.

4. Is your current car causing your stress, headaches, constantly breaking down, or otherwise causing you major problems?

If not, see #1-3. If it is, or you just hate the car, it's probably time for a change. If you absolutely love the car, but it's giving you fits (of rage), it might still be time for a change.

A different car can have it's own stress. A new payment/loan, higher insurance premiums, wanting to keep it "new", etc. What stresses are you willing to get of and what stresses are you willing to take on?

5. What does your mechanic say?

I once took my car in for a minor engine problem, which the mechanic said he could fix for $40. Unfortunately, he also said that the steel holding the rear wheels on was completely rusted out and warned me about going too fast or stopping to suddenly, saying that could rip off my wheels.

If you car has become dangerous to drive, it's time. If the repairs are extensive (like a full transmission rebuild, floor boards are see-though, repairs are continually over $1000, etc.), it's also time for a new ride.

6. How does it look?

Yes, this is superficial, but there's a lot that can go into it. Having a nasty looking car can affect your self confidence, self worth, how you are perceived by new people/significant others, how your boss looks at you, and more. This can possibly be fixed by a new paint job, but is it really worth it?

A paint job usually entails stripping off the old paint, which often ends up uncovering all kinds of problems you didn't know about. Massive rust, panel damage, and more are common when doing this kind of work. And even a cheap paint job isn't cheap.

I had an old car that I'd fixed a lot of rust spots on it. I didn't always have the right color of paint to match the existing color. Other times, I didn't even bother going beyond primer. I ended up calling it "mostly red", with the reds not even matching. I ended up taking a bunch of spray paint and making it all one color. It wasn't great, but it was better.

7. How many miles are on the car?

Some people ditch a car when it gets 75-100,000 miles. Some people think that same car is just finally "comfortably broke-in". Regardless, once you are over 150k miles, you're going to be seeing many more repairs. Over 200k miles, and the car is likely ready to retire. There are people who will disagree and have gone a lot farther with cars, but they have also done a lot of work to keep those cars running that long. Are you willing to pay for or do that many repairs?

8. What is your gas mileage?

If you are looking at single digits for gas mileage, you probably need something a lot better. Unless it's a truck that hauls things constantly, you should be getting at least 20 mpg even with an older car. With really low gas mileage, you are paying more for your current car than you realize. Newer cars tend to get over 30 mpg, and some up to 40 or 50 mpg.

9. Does it do what you need it to do and can you find a replacement that will also fit your needs?

If you can't find a replacement, not to mention be able to afford that replacement, then you're kind of stuck with what you have. More than likely, you just need to keep looking to be able to find that vehicle that can carry 10 people and be under $X000, pull a 3 ton trailer, or whatever your needs are.

10. Can you afford all the taxes, title, extended warranty, etc. that might be added to the "new" car purchase?

Buying a car is more than just the price on the window. The last time I bought a different car, I bought the extended warranty. The car was at the right mileage for needing a bunch of work, even though it was in good condition when I got it, so I decided to take the chance. It paid off. The car needed more repairs than the warranty cost, so I made out pretty well. The warranty I bought was $2000 and the repairs were around $3000, so I made it work for me. It doesn't always work like that, which is why insurance companies exist.

Taxes can be a major part of the purchase, as well as the title. These are usually dependent on the age and weight of the vehicle. The newer and larger the vehicle, the more taxes and the title will be. Remember to factor this into your car buying budget.

Conclusion

The value of a car is more than just it's financial worth. Vehicles cost time as well as money. Bad vehicles cause stress and anxiety, and that alone can be worth getting something different.

There are a lot more things to consider when looking at replacing vs. repairing a vehicle. I've tried to give you things to think about besides just financials, but money is a big factor. Especially if you don't have enough of it. Are you leaving enough money in your budget for the car payments and still have enough for rent, food, etc? Are your financial safety margins too small?

I rarely make a decision based purely on financials. When I see people do that, there are 2 ways they usually end up. Either they don't have anything (including money), or they have everything (including debt). In practice, somewhere in between if the right place to be and that "right place" is different for everyone.

In the end, it has to feel right. Just because it seems like a financial win on paper, it might not be if you just don't feel right about it.

Answer 3

That is to say, if I have a car with a depreciated value of $2,000 and the optimal replacement for it costs $10,000, I should rationally be prepared to spend up to $8,000 (perhaps a little less when you consider maintenance schedules and warranties etc.)

Why would the optimal replacement cost $10,000? Because it is newer and in need of fewer repairs, expected to last longer. At some point the repairs aren't worth it to most people because they expect that repairs currently needed are just the tip of the iceberg and that many more repairs are looming in the distance. The risk of major repair costs does increase with the age of the vehicle.

I do think that many people are too quick to jump to a newer car rather than repair their current, but it's a hard line to find, you don't want to spend $8k on repairs for a $2k car without reasonable certainty that it will have lower total cost of ownership than buying a newer $10k car.

Fix vs buy: do I really need to consider a car's “value” with depreciation?

Yes, current market value impacts cost of ownership. If you paid $10k 5 years ago and it's worth $2k now, then $8k + all related expenses divided by 5 is annual cost to own. That's the ultimate figure you're trying to determine in a fix vs buy calculation, so current market value always matters.

Some other factors to consider in fix vs buy include improvements in safety and efficiency, repair costs/parts availability, and cost to insure and register.

Answer 4

Economically speaking the cost of car ownership splits into three parts:

1. Fuel, insurance, tax, other consumables.

2. Repairs and maintenance.

3. Depreciation, that is, loss of resale value over time.

Over the entire time you own the car, your total net expenses are the sum of these three items. From an utilitarian point of view you want to own a car that satisfies your transportation needs and minimizes the sum of the three components.

Brand new cars are expensive to own because the drepreciate very fast. Very old cars don't depreciate much -- there's not much resale value to lose in the first place -- but the repair/maintenance costs may be high. Somewhere in the middle is a minimum, and you should strive to own a car whose age is near that minimum of that curve.

Unfortunately, while the resale value of the car can be tracked reasonably reliably by observing what similar cars sell for in the market, the repair/maintenance cost is more a matter of statistical averages; the actual expenses come in unpredicatable spikes rather than smoothly spread out in time. So finding the exact minimum is not easy.

If we assume the used-car market to be rational and efficient (ha!), the price curve ought to adjust itself such that the varying speed in depreciation closely cancels out the increasing maintenance needs as the car ages. But the market is not really rational. The demand for brand new cars is raised by owners who attach emotional value to having a new car (and in particular to not driving a used car). At the other end, the demand for cheap old cars is propped up by people who don't have the capital to buy a car in a more favorable place in its age curve (they're then at risk of large repair bills being relatively frequent; it is expensive to be poor!). However, in the middle of the age curve, approximate market efficiency should be expected to keep the sum of the three cost elements reasonably constant over a wide range of the age curve, so finding the exact minimum is not all that important.

You don't want to switch out your car twice a year to keep it extremely close to optimum age, anyway -- the transaction costs of selling and buying would eliminate the advantage of keeping the running cost absolutely minimal.

But by the time the yearly repair costs grow faster than the depreciation tapers off, you have definitely reach the part of the curve where total cost-of-ownership increase with the car's age, and at that point it will be rational to switch it out for a newer one.

It's a useful rule of thumb that if the cost of a single repair exceeds the total remaining (repaired) resale value of the car, then this point has been reached long ago. At that point it would even be a short-term win to scrap the old car unrepaired and spend less money on buying an otherwise similar (but running) used car instead. Even if a single repair would cost half of the resale value -- that is, the expected cost of the repair is the same as the resale value of the broken-down car -- it is likely that you're overdue for replacing the car.

But don't take this as more than a rule of thumb -- it's not something that can be deduced from economic first principles, and the actual point where it is rational to replace the car is probably several years before such an expensive repair becomes likely.