Auto Loan Rates Are Up. Should You Raid Your Savings to Buy a Car in Cash?

The average monthly payment for new vehicles hit a record high of $730 during the first quarter of 2023, reports Edmunds. And there's a reason for that. Not only are car prices elevated, but it's gotten more expensive to sign an auto loan on the heels of the Federal Reserve's string of interest rate hikes.

Of course, this isn't an issue that's limited to auto loans. It costs more money these days to take out a personal loan, home equity loan, and just about any loan.

Edmunds reports that the average annual percentage rate on a new financed vehicle was 7% during 2023's first quarter. And while you might manage to snag a more competitive rate with an excellent credit score, all told, it's going to cost you a lot to finance a car these days.

As such, you may be considering raiding your savings account to buy your next car outright. But whether doing so is a good idea depends on how much money you have, and how much you need for emergencies.

You don't want to touch your emergency fund

You may have money in savings that's earmarked for emergency expenses -- things like unplanned home repairs or to cover your bills during a period of unemployment. You absolutely should not take money out of your emergency fund to buy a car in cash.

If you do, you may not have enough cash left over to deal with an actual emergency. And from there, you may be forced to take on credit card debt, which is likely to leave you paying off a balance with an interest rate that's higher than what you'd pay on an auto loan.

However, if you happen to have a lot of money in savings, and you have enough to pay for a car beyond what you need for emergencies, then now's a pretty good time to consider buying a car in cash. Doing so could save you a lot of money on interest.

Now as a general rule, it's important to have enough money in emergency savings to cover three months of essential bills. So let's say you're looking at a $40,000 car and happen to have $60,000 in savings -- say, because you recently received an inheritance, or simply because you've been a really diligent saver since you started working. If your essential monthly bills come to $6,000, then you need $18,000 as your minimum emergency fund. In that case, you could technically get away with withdrawing $40,000 to buy your car.

But let's say you want to buy a $40,000 car and have $50,000. In that case, removing $40,000 would mean leaving yourself short on emergency savings, which is something you don't want to do.

You can shop around to try to reap savings

As frustrating as today's auto loan rates are, in many cases, financing a vehicle still makes more sense than paying for one in cash. But if you're going to borrow money to buy a car, talk to different lenders to see what rates they're offering.

Auto loan rates may be more expensive than they've been in years. But that doesn't mean you won't reap a modest amount of savings by shopping around.