Depreciation: Money for Nothing

Most car buyers focus on sticker prices, incentives, financing offers and monthly payments.

The biggest cost of most people's car ownership experience isn't gas, repairs, or insurance. It's depreciation.

So unless you are going to keep your new auto until it falls apart, please consider resale value as a top priority.

Depreciation is the decline in a car's value over its life.

Despite the implications of some advertising cars are not investments.

The Anti-Investment

Although fuel is gaining, depreciation is still the biggest single cost of car ownership.

I know, I already said that, but it's sooooo important.

An average vehicle will retain only about 38% of its original value after 5 years.

This is to me the central fact of the car ownership experience, but it is ignored by a majority.

New-car buyers, used-car shoppers, and lessors all need a firm understanding of deprecation as it relates to their purchase.

Depreciation, and its mirror image residual value, are the keys to a lease because your monthly payments are largely determined by a car's estimated residual value.

Slower depreciating vehicles have relatively lower monthly lease payments.

Many of the least expensive cars, with their low residuals, are poor candidates for leasing.

Motor vehicles are "depreciating assets."

Compared with other big-ticket purchases, like buying a house, car-buying habits are much more important in determining a middle class person's financial fitness over a lifetime.

I knew a guy who advertised in newspapers (before the internet), looking for folks anxious to leave town and needing quick cash. In 1978 he up-traded a 1974 Chevy Vega his uncle gave him, plus $300 cash, for a perfect 1969 Corvair convert. After a month, the Corvair went for a Fiat roadster.

He never set foot on a car lot. Last time I saw him, in the mid-1980's, he had a slick black 1981 Corvette.

That $300 a month could have been a car payment for the millions of folks who take the other route: borrowing money to pay for rapidly depreciating cars.

Faster than the Speed of Life

Everyone knows a new car's value drops the minute it rolls off the dealer's lot, but actual depreciation figures have not been available until recently.

New vehicles up to 20% of their value when the deal is inked.

A year later, the typical car has lost from 25% to 30% of the initial price. Some very bad vehicles may lose as much as 40%.

The second year generally sees another 15% decline in value. Year three eats up another 12%, with about 6–8% annually after that.

The average vehicle will retain 38 percent of its value after five years. At the bottom of the pack, some cars retain a scant 20 percent of their original value after five years.

For a large percentage of buyers, and almost every lessee, the car payment goes mostly for interest and depreciation.

Rapidly depreciating vehicles leave many owners upside down in the loan, with car loans larger than the cars are worth.

The insurance industry even offers "gap insurance" to cover the difference between what a consumer owes and the payout if the car is totaled.

In many cases it is actually cheaper overall to buy a more expensive, but slower depreciating vehicle.

In the bestseller The Millionaire Next Door, the author identified a key characteristic of the successful. They avoid paying for car depreciation: they rarely drive brand new cars and avoid leasing unless there is a business reason.

Smart consumers pay as much attention to residual value as monthly payment, especially when the planned ownership period is shorter than 3 years.

Continue to Causes of Depreciation