Navigating the maze that is personal finance

Monday, 1 January 2018

Should I take a car loan or pay by cash

So you have decided to buy a new car. It fits in your budget and you have the required money to buy it without loan. But you still have the question – Should I take a loan for purchasing my car? Should I pay the full amount upfront? I will try and help you answer this question from a purely financial perspective.Let’s say that the on road price of your new car is Rs. 10 lakhs.

Choice 1: Go for the maximum loan amount offered by the bank

Banks usually offer a maximum loan of up to 80% to 90% of the ex-showroom price. So let’s assume that we will need to make a down payment of Rs. 2 lakhs and the bank finances the rest. The interest rates offered varies from bank to bank, but for our example let’s assume an interest rate of 9%. The EMI on 8 lakhs for 5 years is Rs. 16,607 and your total out go over the 5 years would be Rs. 996,401.

Now assuming that you will invest the remaining 8 lakhs in a Mutual Fund which gives an annual return of 12%, at the end of 5 years you will have Rs. 1,409,873.

Total money left with you = Rs. 1,409,873 - Rs. 996,401 = Rs. 413,472

Choice 2: Pay the full amount by cash

Let us assume that you will invest Rs. 16, 607 every month for 5 years in a mutual fund that gives 12% annualized return. You will have Rs. 1,369,851 at the end of 5 years.

Total money left with you = Rs. 1,369,851 - Rs. 800, 000 = Rs. 569,851


As you can see from the two scenarios, you the difference in the two approaches is close to 37%. This difference will only increase if the car loan interest rate is more than 9%.
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