Overspending on vehicles is an American wealth killer
It was hard to miss the fancy rim shop I passed recently.
Dozens of shiny rims were stacked on racks in the windows. They had the kind that spin, chrome rims, black rims and gold rims. Really, any kind of rims you could imagine.
But what really drew my attention was the sign offering "lease" and "rent-to-own" rims.
I can't believe people would actually lease wheels, but it happens.
You can walk into some of these places with little more than a paycheck stub and drive out with $5,000 rims on your car. You don’t need credit, and they offer "low weekly payments."
We all know it’s a terrible deal, financed by an exorbitant interest rate for something that really serves no purpose other than to make you look cool.
But it made me think how overspending on vehicles is an American way of life. It's also a wealth killer.
Think of the people you know who drive a vehicle that costs nearly their annual salary.
A common rule of thumb says that you should spend no more than 10% of your annual gross income on total transportation costs. That includes principal, interest, insurance and maintenance.
For a person making $50,000 per year, that's a $416 monthly limit. And we’re not even factoring in the cost of gas.
If we assume insurance at $75 a month, that's no more than $341 for principal and interest on the auto loan.
That means if you have a 5-year loan that carries an average interest rate — about 4.45% — you should borrow no more than $18,300. With a 10% down payment, you shouldn't buy a car that costs much more than $20,000.
It doesn't take much guesstimating and casual observation to assume that many people buy and drive vehicles that surpass that 10% rule. (One recent study estimated average annual automobile costs were closer to $10,000 a year.)
So, while it may sound silly to spend thousands on shiny new wheels, it's just as much a poor financial decision to buy a luxury vehicle when you can't afford it.
If you're buying a $40,000 vehicle, you should have a good salary to back it up.
By sticking with the 10% rule, that means you should have an annual income of at least $86,520 to buy that vehicle in a financially responsible manner.
What's more, you don't need to own a high-end vehicle.
But you do need things like an emergency fund, retirement savings, health insurance and to pay down debt.
If you’re overspending on a vehicle, it’s likely coming at the expense of some of these other financial obligations.
The problem is that when many people hit the car lot, financial sensibility goes right out the window.
Car salespeople know this very well.
Ultimately, all you need is a reliable, reasonably safe hunk of metal that will get you from Point A to Point B.
Don't be fooled by come-ons to spend more. And don't pay attention to the dealership when it offers to finance way more than you can reasonably afford.
Salesmen are only interested in their commission and don't care whether you'll retire with no savings.
Just remember, when you buy a vehicle, you need to make all of your decisions within that 10%.
Even better, spend less.