Here's What Happens When You Buy a New Car in Cash

Buying a new car can be a lot more expensive than buying a used car. However, there are some perks involved. 

For one thing, new cars come with a warranty, and one that you may be able to extend at a modest cost. That means you might spend years without having to worry about covering the cost of a major repair. With a used car, you may not get anywhere close to the same warranty. And what you save in the form of a lower purchase price, you might spend on expenses like a busted transmission. 

Many people who look to buy a new car end up financing their vehicle purchases with an auto loan. But what if you have a robust savings account balance? You may be considering buying a new car in cash. But is that a smart move? 

Well, it could be. But it could also backfire on you.

There's a benefit to paying in cash

When you buy a car in cash, you don't have to deal with the hassle of shopping around for the best auto loan. More importantly, you save money on the interest you're not paying on that loan.

As of November 2023, the average auto loan rate was about 8.5%, according to Federal Reserve data. So let's say you take out a five-year, $40,000 auto loan at 8.5%. In that case, you're looking at spending over $9,200 on interest when paying your auto loan off. So not having to lose that money is huge.

But there's also a big drawback

While you can save big on interest by not having to finance a vehicle purchase, the drawback is that you might leave yourself short on cash for other expenses. And that could lead to a situation where you may be forced to incur even more expensive debt.

Let's say you empty your savings account to buy a car, only then a $5,000 emergency expense arises. If you're forced to charge that expense on a credit card, instead of paying around 8.5% interest like you might with an auto loan, you could end up paying 18.5% interest instead. 

As such, if you're going to buy a new car in cash, make sure to leave yourself with a decent emergency fund. At a minimum, keep enough cash on hand to cover three full months of essential expenses. 

So let's say you spend $4,000 a month on essential bills. If you have $80,000 in the bank and want to buy a $40,000 car in cash, by all means, go for it. But if you have $45,000 in the bank and want to spend $40,000 of it on a car, that's a more dangerous move. You could, in that case, end up left in a bind in the event of a layoff, for example, because you'll be left with only about a month's worth of bills you can cover.

All told, buying a car in cash has its benefits -- but only if you can leave yourself well-equipped to handle emergency expenses after doing so. Otherwise, you may be better off financing your vehicle, even if it means paying interest on a loan.