Why do people buy new cars they can not afford?

Question

This question in particular refers to the U.S. It has always baffled me and I am looking for diverse viewpoints to help understand the issue.

Every day as I drive to work I see lots of new cars. US automakers regularly report bumper sales. Even Mall parking are packed with new (1-3 years old) cars.

I believe the ballpark estimate is that 90-95% of Americans use auto loans to finance car purchases.

I also estimate new cars cost on average $20-25K. Depending on loan term, I would estimate average payment (after all fees, interest, etc) at around $300-400/mo. I would estimate around $300/mo in gas.

Factoring in license/registration, oil changes, other occasional maintenance you are out at least $5K/yr. And you don't even own it until it's paid off. And it's guaranteed to be worth a lot less by then because of depreciation. How is that a smart investment or use of debt financing?

In contrast, suppose you buy a 5-year old compact sedan with about 60K miles for around $8-9K. Assuming similar annual financial outlay, you would pay it off in about 2-2.5 years. After that you are free and clear for the rest of the car's life. That's reasonably 20 years. If you buy a new car as soon as you pay off the old one, that's $100K over 20 years.

Considering this math, I am wondering why isn't it a norm in the U.S. to buy used cars and drive them to death for 20-25 years? Why doesn't the overwhelming majority of the U.S. population subscribe to a frugal mindset of using a car only as a means of basic transportation from point A to point B. Why are people willing to take out car loans that are easily 50%-75% of their take-home net annual pay?

Does everybody know something that I am missing? It would be great to hear a few perspectives.

Answer 1

If everyone bought used cars, who would buy the new cars so that everyone else could buy them used? Rental car companies? Your rant expresses a misunderstanding of fundamental economics (as demand for used cars increases, so will prices) but economics is off-topic here, so let me explain why I bought a new car—that I am now in the 10th year of driving.

When I bought the car I currently drive, I was single, I was working full-time, and I was going to school full-time. I bought a 2007 Toyota Corolla for about $16,500 cash out the door. I wanted a reliable car that was clean and attractive enough that I wouldn't be embarrassed in it if I took a girl out for dinner. I could have bought a much more expensive car, but I wanted to be real about myself and not give the wrong impression about my views on money.

I've done all the maintenance, and the car is still very nice even after 105K miles. It will handle at least that many more miles barring any crashes. Could I have purchased a nice used car for less? Certainly, but because it was the last model year before a redesign, the dealer was clearly motivated to give me a good deal, so I didn't lose too much driving it off the lot.

There are a lot of reasons why people buy new cars. I didn't want to look like a chump when out on a date. Real-estate agents often like to make a good impression as they are driving clients to see new homes. Some people can simply afford it and don't want to worry about what abuse a prior owner may have done.

I don't feel defensive about my decision to buy a new car those years ago. The other car I've purchased in the last 10 years was a four year old used car, and it certainly does a good job for my wife who doesn't put too many miles on it. I will not rule out buying another new car in the future either. Some times the difference in price isn't significant enough that used is always the best choice.

Answer 2

Two reasons:

1. Many people make lots of financial decisions (and other kinds of decisions) without actually running any numbers to see what is best (or even possible). They just go with their gut and buy things they feel like buying, without making a thoroughgoing attempt to assess the impact on their finances. I share your bafflement at this, but it is true.

   A sobering example that has stuck with me can be found in this Los Angeles Times story from a few years ago, which describes a family spending $1000 more than their income every month, while defaulting on their mortgage and dipping into their 7-year-old daughter's savings account to cover the bills --- but still spending $275 a month on "beauty products and services" and $200 a month on pet expenses.

2. Even to the extent that people do take finances into account, finances are not the only thing they take into account. For many people, driving a car that is new, looks nice and fresh, has the latest features, etc., is something they are willing to pay money for. Your question "why don't people view a car solely as a means of transportation" is not a financial question but a psychological one. The answer to "why do people buy new cars" is "because people do not view cars solely as a means of transportation".

   I recently bought a used car, and while looking around at different ones I visited a car lot. When the dealer heard which car I was interested in, he said, "So, I guess you're looking for a transportation car." I thought to myself, "Duh. Is there any other kind?" But the fact that someone can say something like that indicates that there are many people who are looking for something other than a "transportation car".

Answer 3

I had a 2000 Chevy Cavalier until late 2011. It worked well, but was very definitely at the end of its life. This was a low-end car, certainly, but I dispute your claim that cars last 20 - 25 years. Consumer Reports apparently says the average life expectancy of a new vehicle is around 8 years or 150,000 miles.

When it came time to replace my Cavalier, I was significantly concerned about car safety and about the ability to handle Canadian winters (-40 temperatures, lots of snow). I chose a Subaru Forester as a good match for me. I could have bought one second-hand, but I wasn't willing to get one as old as five years. Car manufacturers constantly improve safety and features over that time period. The Forester is massively more capable of handling Canadian winters than the Cavalier was.

If I was buying a Forester now, I'd want the EyeSight Driver Assist System which Subaru added a couple of years after my model year. The newer models score slightly higher in crash tests, too. That would limit me to 2014 or later models, and I'd be concerned someone selling a 2014 or 2015 knew something I didn't, knew they had purchased a lemon.

I didn't need financing for my vehicle. On the other hand, I could have invested the money I saved, so if all I wanted was something to get me from point A to point B, my choice does not make much financial sense. But Canadian winters are brutal and car safety is massively important to me. I'm well aware that I paid considerably for this, and I'm comfortable with my decision.

Answer 4

The car you dream of might not be available in your local used car market. Or if it is, there might be something wrong with it.

Here are some reasons that a person might want to buy a new car. Basically, if you have a picture in your mind of what your next car should look like, it is easier to shop for a new car:

• You can choose the paint color.
• You can choose the engine (4 cylinder vs. V-6, V-6 vs. V-8, et cetera).
• You can choose the transmission (if a manual transmission is available).
• New comfort features, like heated seats, or zoned air conditioning.
• It is easier to find out what price is "fair".
• Better interest rates are available on new cars.

New cars are getting better. Here are some reasons that a person might want a newer generation car rather than an older generation car:

• Except for "really cool old cars" and occasional "ugly new cars", there is more social status to having the current generation vehicle. People wait longer before honking at fancy cars; people are more likely to be impressed when you drive up; et cetera.
• In each model, the newer generations of vehicles tend to be roomier, more powerful, more crash-resistant, and accelerate faster.

Cars wear out. Here are some reasons a person shopping for a car might pass on a used car:

• The paint is peeling. (For many years, low-end Big Three vehicles had relatively cheap paint jobs that peeled off after several years.)
• There is rust damage. (This is especially common in snow country. This used to be common after just a few years.)
• Expensive components are worn out. (There is a reason that a 60,000 or 100,000 mile powertrain warranty used to be a selling point. Also, many sports cars need expensive repairs after 15,000 - 30,000 miles.)
• Squeaks, rattles, leaks, and electrical faults. (Rubber deteriorates. Airbags are designed to work for ten years.)
• Flood damage, or accident damage.
• The lemon effect -- why would anybody sell a car that is less than two years old?
• The interior is smelly. Most people don't want to be in a car that reeks of smoke.

In other words, there are good reasons to want a car that is either brand new, exactly two years old, or 3 - 5 years old. The brand new car might be better than the old car ever was.

Answer 5

There are many reasons for buying new versus used vehicles. Price is not the only factor.

This is an individual decision. Although interesting to examine from a macro perspective, each vehicle purchase is made by an individual, weighing many factors that vary in importance by that individual, based upon their specific needs and values. I have purchased both new and used cars, and I have weighted each of these factors as part of each decision (and the relative weightings have varied based upon my individual situation).

Read Freakonomics to gain a better understanding of the reasons why you cannot find a good used car. The summary is the imbalance of knowledge between the buyer and seller, and the lack of trust. Although much of economics assumes perfect market information, margin (profit) comes from uncertainty, or an imbalance of knowledge. Buying a used car requires a certain amount of faith in people, and you cannot always trust the trading partner to be honest.

• Price - The price, or more precisely, the value proposition of the vehicle is a large concern for many of us (larger than we might prefer that it be).

• Selection - A buyer has the largest selection of vehicles when they shop for a new vehicle. Finding the color, features, and upgrades that you want on your vehicle can be much harder, even impossible, for the used buyer. And once you have found the exact vehicle you want, now you have to determine whether the vehicle has problems, and can be purchased at your price.

• Preference - A buyer may simply prefer to have a vehicle that looks new, smells new, is clean, and does not have all the imperfections that even a gently used vehicle would exhibit. This may include issues of pride, image, and status, where the buyer may have strong emotional or psychological needs to statisfy through ownership of a particular vehicle with particular features.

• Reviews - New vehicles have mountains of information available to buyers, who can read about safety and reliability ratings, learn about problems from the trade press, and even price shop and compare between brands and models. Contrasted with the minimal information available to used vehicle shoppers.

• Unbalanced Knowledge - The seller of a used car has much greater knowledge of the vehicle, and thus much greater power in the negotiation process. Buying a used car is going to cost you more money than the value of the car, unless the seller has poor knowledge of the market. And since many used cars are sold by dealers (who have often taken advantage of the less knowledgeable sellers in their transaction), you are unlikely to purchase the vehicle at a good price.

• Fear/Risk - Many people want transportation, and buying a used car comes with risk. And that risk includes both the direct cost of repairs, and the inconvenience of both the repair and the loss of work that accompanies problems. Knowing that the car has not been abused, that there are no hidden or lurking problems waiting to leave you stranded is valuable. Placing a price on the risk of a used car is hard, especially for those who only want a reliable vehicle to drive. Placing an estimate on the risk cost of a used car is one area where the seller has a distinct advantage.

• Warranties - New vehicles come with substantial warranties, and this is another aspect of the Fear/Risk point above. A new vehicle does not have unknown risk associated with the purchase, and also comes with peace of mind through a manufacturer warranty. You can purchase a used car warranty, but they are expensive, and often come with (different) problems.

• Finance Terms - A buyer can purchase a new vehicle with lower financing rate than a used vehicle. And you get nothing of value from the additional finance charges, so the difference between a new and used car also includes higher finance costs.

• Own versus Rent - You are assuming that people actually want to 'own' their cars. And I would suggest that people want to 'own' their car until it begins to present problems (repair and maintenance issues), and then they want a new vehicle to replace it. But renting or leasing a vehicle is an even more expensive, and less flexible means to obtain transportation.

• Expense Allocation - A vehicle is an expense. As the owner of a vehicle, you are willing to pay for that expense, to fill your need for transportation. Paying for the product as you use the product makes sense, and financing is one way to align the payment with the consumption of the product, and to pay for the expense of the vehicle as you enjoy the benefit of the vehicle.

• Capital Allocation - A buyer may need a vehicle (either to commute to work, school, doctor, or for work or business), but either lack the capital or be unwilling to commit the capital to the vehicle purchase. Vehicle financing is one area banks have been willing to lend, so buying a new vehicle may free capital to use to pay down other debts (credit cards, loans). The buyer may not have savings, but be able to obtain financing to solve that need.

Remember, people need transportation. And they are willing to pay to fill their need. But they also have varying needs for all of the above factors, and each of those factors may offer value to different individuals.

Answer 6

Many reasons

• Banks give lower interest rates for new cars. Also dealer financing will be better. I bought a new car with 0.9% APR with 3 year financing.
• You have no idea how the previous owner(s) treated the car. Why did they get rid of it? My family has had 5 or 6 used cars and we have always found something wrong after buying it. Some minor, and some major.
• The car may have been in an accident even though the CARFAX reports says 0 accidents. One of my used cars had the whole driver side paint job done, but the car was listed as accident free. Why would the whole driver side of the car be painted? Didn't know about it until I took in my car for maintenance when the mechanic noticed it.
• Some warranties are not transferable. The new car I bought has a lifetime power-train warranty, but it is not transferable. Only the standard manufacturers' 3-year warranty is transferable.

So in general you are paying more for peace of mind when you buy a new car. You expect everything to be working and if not you can take it back to the dealer to have them fix it for free.

Answer 7

I would answer your question very simply: marketing works.

"If you don't have a new F-150, you are not a real man." for men, and "If you don't have a new Honda Pilot your kids are in danger." for woman. One observation that reinforces this are the amount of new(er) Buicks on the road. Five years ago, they were pretty rare, now there are many. Their marketing strategy of "We don't suck so much anymore", seems to have worked. I don't get it.

Last year, Consumer Reports reported that 84.5% of new cars are financed with an average payment of $457 over 65 months.

I like your analysis, but lets say instead of following this path, Brad and Jenn, put $250 a month away in a cookie jar (to cover repairs and car replacement), and $664 (457*2-250) in a mutual fund. After doing this for 30 years, they will have 1.5 million. Driving a new car is precluding many from being wealthy.

It is hard to jump aboard the "income inequality" bandwagon when you see with brand new iphones and cars.

Answer 8

Most people today (and maybe regardless of era) are irrational and don't properly valuate many of their purchases, nor are they emotionally equipped to do the math properly, including projection into the future and applying probabilities.

This compounds. Imagine that each individual is bound to others by a rubber band and can stretch in a certain direction. The more your neighbors stretch, the more you are both motivated to stretch and able to stretch. These are crudely analogous to consumer wants as well as allowed consumer debt. The banks are also within this network of rubber bands and much of their balance sheet is based on how far they've stretched on the aggregate of all connected bands (counting others debts as their credit because it will presumably be repaid), and every so often enough people's feet slip that a lot of rubber bands snap back. This is a bubble bursting.