As a financially savvy Lockheed Martin employee, you may not currently have any outstanding auto loans, whether that’s because the vehicle was paid with cash or that the loan was recently paid off. You may also be aware that debt in general has a negative connotation. This stigma often causes an individual to avoid using debt instruments even when it could be beneficial. Yes, an auto loan can be considered good debt and help you in the long run. In this post, we will focus on how an auto loan could be considered a beneficial debt instrument to use as leverage when purchasing a vehicle, rather than paying cash for the vehicle.
First, let us define leverage. Leverage is the use of debt to undertake an investment or project, with the result being to multiply the potential returns from a project. In this case, the auto loan is the debt, and the result is the growth of the cash. When the decision is made that it is time to purchase a new car, you have options on how to pay for it: finance or pay cash. Your investment account or bank account may have enough funds to withdraw and use as a cash payment. This is frequently the first thought, so as not to incur any debt and so as not to have any monthly payments added to the budget. However, what if you reviewed your financing options and how you could make an option work in your favor, allowing you to keep the cash and have it work in your favor as well? We’ll examine what could happen if you kept your cash invested while using a financing option.
Let’s create two scenarios where Scenario 1 gives you a financing option of 0% and Scenario 2 give you a financing option of 5.5%. In both scenarios, you have $100,000 in an investment account earning 10% annually. This is the account from which you would have withdrawn $50,000 cash to pay for the vehicle. The question is will either of these scenarios be more beneficial than purchasing the vehicle with cash?
Scenario 1:
| Financing Option | Investment Account |
| Vehicle Price = $50,000 | Account Value = $100,000 |
| Loan Amount = $50,000 | Annual Return = 10% |
| Interest Rate = 0% | Annual Growth = $10,000 |
| Loan Term = 5 years | |
| Annual Loan Payment = $10,000 |
In Scenario 1, you have kept your dollars invested and accrued $10,000 in growth. You have also used the 0% financing option to purchase your vehicle. As you can see from the chart above, the annual payment for the loan and the annual return on the investment account both equal $10,000, meaning the investment account could easily make the loan payments while still leaving the $100,000 principal account value intact. Had the dollars been withdrawn from the investment account as a lumpsum to pay for the vehicle in cash, then the growth of the investment account would have only been on the remaining $50,000 which would then have only grown by $5,000. At the end of the year, you would have $55,000 in your investment account. Using the loan option, would have left you with $100,000 in your investment account. The result shows that as long as your investment account generates enough growth to pay for the loan, using the financing option is the better option in this scenario.
Scenario 2:
| Financing Option | Investment Account |
| Vehicle Price = $50,000 | Account Value = $100,000 |
| Loan Amount = $50,000 | Annual return = 10% |
| Interest Rate = 5.5% | Annual Growth = $10,000 |
| Loan Term = 5 years | |
| Annual Loan Payment = $11,710 |
In Scenario 2, you have kept your dollars invested and accrued $10,000 in growth. You have also used the 5.5% financing option to purchase your vehicle. As you can see from the chart above, the annual payment for the loan and the annual return on the investment account are not equal. Your annual payment of $11,710 is greater than your annual growth of $10,000; therefore, the investment account’s growth would not be enough to pay for the loan. In this case, paying for your vehicle in cash would be better. To compare future purchases like this, you can use the calculator found HERE.
It’s not always best to pay cash for a car. You must do the analysis to see which works best for your particular situation as each person is different. This is where a financial planner like us comes in handy. Not only do we know the ins and outs of your Lockheed Martin benefits, but we also make sure we continually advise our client on all life’s financial matters. Give us a call today at 817-210-3444 or click HERE to book your complementary consultation.
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