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A Line of Credit, a Car Loan, and More Lies

A Line of Credit, a Car Loan, and More Lies

Debt. In the world of personal finance, debt is a dirty word. Its sinful, carnal, an abstraction of evil itself. Growing up, I was always taught to avoid debt as much as possible. My parents taught me that the only reason you should ever go into debt is for education or a house, never for consumer debt. Yet so often, debt feels “necessary”. Like when buying a car for example. How many people can really afford to pay cash for a car? I mean, at least for a new car. You know, the one with all the features that you absolutely need.

Well, my wife and I are planning to buy a car. We’ve been saving for a couple of years, taking transit everywhere we go while our friends zip around in their Mazdas and Volkswagens, getting to put their groceries in their trunk, not on their laps. It has definitely not been fun, but we’ve managed to save a lot of money by making this sacrifice.

However, as much money as we’ve saved, we don’t have quite enough for the vehicle that we’ve been looking at. Therefore, one of the possibilities that we’ve considered was going into debt in order to buy a vehicle. As long as we can get a decent rate, and as long as we are able to comfortably afford the payment, and as long as it doesn’t greatly increase our debt load, then we definitely think that it could be worth it.

Our Trip to the Bank

Our first step was to go to our local bank and ask about what sort of options were available to us. The bank manager sat us down and we were able to have a nice little conversation with him about what choices we had. Right off the bat, he told us that we could either get a line of credit or a car loan. Each has their positives and negatives. A line of credit is revolving, meaning that we pay for whatever we use, we only have to pay on the interest, and we can go back and forth between spending the money and paying it off. The car loan, on the other hand, is a one time offer, and you’re set on a payment plan that pays both the interest and principal. The line of credit could be up to 25% of our net worth, and the car loan would be secured on the value of the vehicle. The line of credit, we were told, is much harder to qualify for. So we gave him an overview of our finances, he ran a credit check on us, and we quickly eliminated the whole “line of credit” option as our net worth is kind of in the negative (thank you, student loans).

However, he approved us for a car loan of $5000, and gave us a rate of 8.25%, which definitely isn’t terrible, but isn’t quite what we were hoping for. If nothing else, however, it is a baseline. Something to work off of. One of the options that we have is applying for financing through a car dealership, so we have a bargaining tool on our side. They will have to beat the financing that we already have in order to get us to go through their financing department, and when it comes to dealing with car dealerships, I want every possible tool on my side before I even walk through the door.

Bad Advice and Even Worse Math

Something I want to mention, however, is the dirty little tactic that the bank manager tried on us before he let us go. He tried to convince us to take out a larger loan, and put a bunch of the money that we put aside (in an online savings account) into a fund with their bank. He pulled out some calculators and rate charts and tried to show us how, if we gave him our money, he could get us a 3% return if we locked in the money for 5 years, so that we would eventually have a paid off car AND $5,000+ in the bank. Being a personal finance blogger, I quickly knew that 8.25% > 3%, and knew that it made absolutely no sense.

The worst part was that when he was explaining his position, he showed the difference between a $5,000 loan at 8.25% and $5,000 being saved at 3%, telling us that we would only pay about $400 for the privilege of taking out a larger loan. However, if we were to do the plan that he was suggesting, we would actually be taking out an $8,000 loan, and putting $3,000 into savings. Yes, that’s right, he used imaginary numbers (“let’s say, $5,000”) to offer us a concrete number – $400.

Now, I know that as a bank manager, it is his job to get us to give him as much of our money as possible. But this was one step away from a blatant lie, and because he made it seem like this was something we should do that would be conditional on whether or not he actually gave us the loan, I felt as though it was a very dirty tactic to use on a young couple that might not have the same personal finance knowledge that I did.

Anyways, our next step in our car hunt is to go for a test drive or two, something that we’re hoping to do this weekend. So maybe next week I’ll let you know how it went, and what I learned! In the meantime, watch out whenever you’re dealing with banks, corporations and businesses. They all want your money, and will resort to almost any tactic to get it from you.

Comments

  1. Xander

    Banks are NOT our friend. They are there to make money by taking as much of our money as we’ll let them have.
    It is a lesson that should be driven into all of our heads from a very young age.

    When I was younger I was told, repeatedly, “Bankers are the type who give you an umbrella on a sunny day and ask for it back when it begins to rain.”

    I used to wonder why this was said until I got my first car loan.

  2. Michael Garrity

    Alan,
    Just a caution to you for when you go to look for dealer offered finance options. As you probably know the overwhelming majority of dealer financing is just indirect bank lending through the dealership on a central system called DealerTrack. Be very careful to look at the fine print of the financing being offered to understand who is the actual lender, what is the actual rate (versus the rate they offer which may be artificially lower through subventing meaning you are likely paying more for the car), and what up-front fees are connected to the loan. Banks are paying both DealerTrack and the dealer to get your loan at point of purchase. They’ll have to make that money back somehow.
    Cheers.
    – Michael

    • Greg

      WOW talk about paranoid. Im a Finance Manager at a dealership. Get your head out of the clouds. Not everyone is a thief or out to get your money. At the end of the day people need to get paid. Thats how economics work. And good luck finding a dealership that will simply allow you to sit in the Finance Office computer, call the banks one by one, and shop your own credit around yourself. People like you who think the world is out to get your money disgust me.

  3. Liam

    All I can think when I read this article, is how someone can be so sheltered and have no idea what a simple loan is like. Maybe loans work much differently in Ontario than in my home province of Alberta, but I cannot believe it is that different.

    I think you will find that when you go test driving and decide to buy a car that you will be offerred much better terms by the dealership, who also use ‘the bank’. Don’t go to a bank until you have a bill of Sale on a vehicle in your hand, and have arranged financing at the dealership. Yes, this will mean two credit checks (One at the dealership, one at the bank) but it is normal when shopping for a big ticket item to check 2-3 options. Just don’t go crazy. On any car loan over 10,000 you should be getting a rate between 6 & 8 %, unless your credit is in the crapper. What the bank offered you wasn’t a car loan, it is a personal loan tied to the car. A car loan is based on the value of a vehicle and the amount of the loan, and terms and conditions are all part of that. You went backwards. pick a car, then get the loan.

    • Greg

      THANK YOU. All these Personal Finance bloggers do a lil research here, lil research there, and think they know everything.

  4. Roshawn @ Watson Inc

    Would I be correct to summarize that you feel consumer debt is appropriate in some circumstances, as long as it doesn’t pose much harm to your financial goals?

  5. Alex

    Good for you, Alan! After you’ve paid back the loan (ASAP), save a little every month in a high interst account for your next car. That way you won’t need to borrow for a car ever again.
    Being in debt is the modern version of being a slave. The bank(creditor) OWNS you.

  6. Brad Chaffee

    It sounds like he was doing what most banks and salesmen do, and that is sell you on “their” best option as opposed to yours. However they can dress it up to make it look pretty to do so is considered to be a sales tactic, but I consider it to be a lie, as you saw yourself.

    Man if I were you I would just avoid the whole taking on debt thing completely. Buy a cheaper, but nice used car you can pay cash for and then take whatever money you would have used for a payment and put it into a special savings account. About a year from now you can upgrade after selling the one you buy, and using the money you would have used for a car payment and buy what you really want—and with no loans at all. Just my advice my friend. But as you know I REALLY HATE DEBT! 😀

    You have been this patient, so that you don’t have to go into debt. Wait just a little bit longer for your dream car and I bet you will be happy you did! 😀

  7. David

    Was this one of the big banks or was this like a credit union. If you are willing I would be interested to know which in particular it was so I can ensure I do everything I can to not deal with people who would pull a stunt like that… asking you to pay them 5.25% per annum for no benefit to you is just insane. But really I think they are hoping you would take the money and spend it, since you have access to it now.

  8. Brian

    Alan,
    Just a caution to you for when you go to look for dealer offered finance options. As you probably know the overwhelming majority of dealer financing is just indirect bank lending through the dealership on a central system called DealerTrack. Be very careful to look at the fine print of the financing being offered to understand who is the actual lender, what is the actual rate (versus the rate they offer which may be artificially lower through subventing meaning you are likely paying more for the car), and what up-front fees are connected to the loan. Banks are paying both DealerTrack and the dealer to get your loan at point of purchase. They’ll have to make that money back somehow.
    Cheers.
    – Michael

  9. Darran Thayaparan

    It’s too bad that you didn’t qualify for a line of credit. Interest on a line of credit is lower than that of a car loan. I would use the cash savings along with a line of credit to pay for a car.

    Here’s a crazy idea. Use a credit card to pay for the Car! Sign up for a new credit card that offers an introductory low interest rate for a limited time and use that as a down payment. When the promotional period expires switch to a line of credit.

    Be warned, this strategy can take its toll on your FICO score. Not recommended if you are thiking about buying a home in the near future.

    As for the bank managers, those poor guys have targets to meet and they will try to sell you anything from Mutual Funds to Credit Cards. What I hate the most is the insurance they sell on the lines of credit.

    Good luck with your new car!

    Darran

  10. Darran Thayaparan

    By the way, student loans should not have prevented you from qualifying for a personal line of credit. Student loans and car loans are considered good debt. Credit card debt is bad debt. You need an education and you need a car to get to work. Whoever told you that you can’t get a loan because of your student loans needs to rethink that position.

    • Bryan Jaskolka

      Education is only considered “good debt” from a personal view of things – you’re bettering yourself, making something of yourself, and giving yourself a chance for a better future so it’s good debt. Banks don’t care about it though, and they still see it as bad debt. Car loans are bad debt too, as they are really just another form of consumer debt. They’re not like a home that (generally speaking) appreciates in value. Cars depreciate as soon as you drive them off the lot and so, they’re actually some of the worst debt you could take on. I have hundreds of clients/potential clients that have been turned down for loans and such simply because they have student debt. It’s typically tens of thousands of dollars, and lenders don’t want to take on that kind of risk.

  11. Richard

    All I can think when I read this article, is how someone can be so sheltered and have no idea what a simple loan is like. Maybe loans work much differently in Ontario than in my home province of Alberta, but I cannot believe it is that different.

    I think you will find that when you go test driving and decide to buy a car that you will be offerred much better terms by the dealership, who also use ‘the bank’. Don’t go to a bank until you have a bill of Sale on a vehicle in your hand, and have arranged financing at the dealership. Yes, this will mean two credit checks (One at the dealership, one at the bank) but it is normal when shopping for a big ticket item to check 2-3 options. Just don’t go crazy. On any car loan over 10,000 you should be getting a rate between 6 & 8 %, unless your credit is in the crapper. What the bank offered you wasn’t a car loan, it is a personal loan tied to the car. A car loan is based on the value of a vehicle and the amount of the loan, and terms and conditions are all part of that. You went backwards. pick a car, then get the loan.

  12. mycar

    In my life i feel debt but i never take this because i have no need yet actually always try to avoid debt as much as possible.But sometimes it’s feel need much and try a fresh source of money loans. We want a good source of money loans for car loan, home loan etc.
    thanks

  13. Smith david

    My heart is incredibly happy to see this published. Must write some more today. I like this feeling. woohooo. And to the above comment from dan. yes. you are correct. I must have see about getting that part changed.
    Thanks Everyone

  14. https://fundmycontract.com

    Hello,i want to be purchase my own car with finance but you know bank become not be a friend for all so they create a lots of problem when we want a loan..so please advise me that how can be finance a car easily….

  15. Alex MacMillan

    Try never to borrow money to buy a car. Wherever possible, take public transportation and save up till you can afford to purchase a cheap car. This is one small step toward financial independence, but an important one.

    • JD

      Useful public transportation exists in only a small percentage of this country. It’s not an option for a very large percentage of population.

  16. Rob

    Having been in your shoes many moons ago I can see your attraction to getting your own car. That said, however, let’s take a deep breath, step back a bit, and analyze your situation – is this really (deep in your heart of hearts) a “need” or is it a “want”? Because if it’s a want then, in your financial situation, with other present debts and not a lot of savings, you might want to consider a few other options. Besides the car cost, you have to consider its costs for insurance, maintenance, gas, etc. Does it need to be a new car and not a (cheaper) used car? Maybe taking public transportation isn’t always “convenient” but I assure you it is a much cheaper option, along with (at times) taking taxis and/or renting a car instead (for that special trip or vacation). Look dude, I was your age once. I eventually got out of debt, saved, invested, made money, and (eventually) bought new cars (with cash). But you gotta be disciplined, make those short term sacrifices, pay your dues first. Follow me? Trust me – you won’t be sorry in the long run. Just sign me “been there, done that”. All the season’s best to you guys.

  17. igra

    If I was in your position and absolutely needed a car I would go for a used car bought privately (not through a dealer) with whatever cash I had saved. If I hadn’t have enough saved to pay for a car in decent condition I wouldn’t have bought a car at all and just kept saving until I had enough.

    8.25% interest is huge! Over a 5yr term you’d pay more than a $1000 in interest on that $5000 borrowed.

  18. Susan

    Go to a credit union to shop for a rate!

  19. Mike

    8.25% means your credit rating is not good at all in these days of low interest rates.
    I got a loan at 3.99% 2 years ago for a car used with 22,000 on it from RBC.
    I’m self employed, net is $11,000 a year so I am not wealthy, I did put $3000 down.
    I paid it off a couple months ago with no penalty as I firmly believe that only when NECESSARY should non tax deductible loans be taken out.
    This couple have been screwed by their student loans.
    Save up and buy what you can afford.

  20. William

    As someone who deals in finance also, it is usually a beeter bet to get your loan through the dealership- you can even request your loan goes to a certain bank and still get a better rate then going directly to the bank. But be warned- when dealer ships check your credit they don’t do it once, they send your application to every bank they deal with and each bank checks your credit. So by talking to 2 or 3 dealerships your credit might get checked 10+ times. Also, although your bank manager approached it wrong and gave you bad explanations he wasn’t wrong. They key to his idea is that by taking a loan out to invest, you need to put the money into a non-registered(not RSP or TFSA) investment(not plain savings, thing GIC/Mutual Fund/ Stocks, because according to canadian tax law you are able to right of the interest on a loan that is used for investment purposes.

    Debt is not bad. Debt is not scary. Debt is a tool.

    Think: Why make your money work for you, when you can make someone else’s money work for you.

  21. John

    Buy a used model of your favourite car first. You can get to really be sure you have what you want, the insurance will be much less and somebody else ate the instant depreciation for you.

    If you are going for a new car anyway be sure your insurance covers full replacement cost for the first couple of years or else you may be stuck in the case of a serious collision which causes a write-off of the vehicle, with only the depreciated value covered even if the car is only month old.
    A total write-off for a single vehicle accident may occur in a simple roll over after hitting an icy patch and may involve no injury.

    I spent many years driving older vehicles and the main thing is change the oil at least as often as the manual says and do required maintenance promptly. Put your money into good tires and proper brake jobs while saving more.

    • William

      I believe that insurance does offer gap coverage the first two years on a new car… Used car coverage does not

  22. Nathaniel

    Lines of credit should not be used to purchase a car.

    While the rate of interest may be lower, few people practice the discipline in paying off their car with regular payments due to cash flow issues that result from day to day life.

    You end up with a depreciated asset and debt outstanding the majority of the time. Yes, there is a segment of people who will use a credit line efficiently, but many will fall behind.

    In addition, most bankers do care about your needs. Most of us (yes I am a banker) do the job because we genuinely care about other people’s needs, and aspire to be a financial planner someday. Our salaries are not that of executive – they are modest and well below that of many union jobs.

    We are in this profession because we believe we can help people through sound advice. Unfortunately, there are those who care more about their year end bonus then the needs of the client sitting in front of them, but those bankers are truly few and far between.

  23. alex

    Hey,

    Having worked for two large banks I understand what the bank rep was trying to do here. See, selling you the loan or Line of credit is great. But if he can grab an investment out of the deal then so much the better. Bank salespeople are judged on the amount of products or “solutions” they sell per day.

    At the end of the day you did the right thing by shopping around a bit looking for the best deal.

    As for banks, they are all about making money, if this happens to fall in line with giving good, relevant advice then great. But their main goal is always making money.

  24. Les

    We have never purchased a new car. Ever in over 40 years of driving.
    Finding a good used vehicle is far more economical but proper research and some acquired knowledge of vehicle brands and their deficiencies etc. is a must.
    Cash is king and loans are only there to bridge your financial deficiency at the time. Unless you own a business and can justify the loan expenses as well as the need for a new car with full warranties that may be needed to keep it in top shape due to high mileage, buy what you can afford with money you have saved.

  25. Jeffery Lamont

    Dealing with a new client last year, I came across a situation that illustratesd poor advice like what you received at the bank. As we were reviewing RRSP assets, I saw an RRSP loan. The bank advisor had recommended my (soon to be client) take a loan out at prime +1.5 (which totalled approx. 3.5% at the time) and invest it in a 5-yr GIC at 2.25%. How someone could advise a client to borrow to invest that way seems irresponsible (given no interest deductibility). That said, I’m sure the advisor got a couple of “ticsk-marks” at the branch for setting up a new loan AND a new investment account…. Needless to say, that client no longer banks there.

  26. Hafiz

    Here are few tips when u go to buy a car from a dealership
    Window shop 2 or 3 dealerships so you can get an idea about prices and promotions..
    Always try to cut the deal on last days of the month..because theynhave to meet certain sales targets and u can gey a good deal…
    Negotiate the price….just make them realize you are serious buyer and starting negotiating the price…dont panic. ..
    If negotiations dobt work..just leave ur contact number and ask them to call you if they want to sell the car on ur price . 99% theu will call u back. ..
    Never ever buy demo models

  27. Hafiz

    Here are few tips when u go to buy a car from a dealership
    Window shop 2 or 3 dealerships so you can get an idea about prices and promotions..
    Always try to cut the deal on last days of the month..because they have to meet certain sales targets and u can get a good deal…
    Negotiate the price….just make them realize you are serious buyer and starting negotiating the price…dont panic. ..
    If negotiations dont work..just leave ur contact number and ask them to call you if they want to sell the car on ur price . 99% they will call u back. ..
    Never ever buy demo models

  28. William

    It is true that first you must select the car you want to buy and put a deposit down subject to the finance options you have.
    #1 The dealership finance
    finance
    #2 the finance arranged privately. OUR DEALERSHIP finances as low as 3.99% and that’s a good payback term of 60 months,there is never a penalty for early payment or payoff
    Please Be responsible in reporting that Ontario Laws As they relate to car purchases is heavily regulated with severe penalties financial and civil.
    With a good down payment qualifying for a car loan in today’s market place new or used with rates half of what banks charge and why would anyone use a prime interest rate that floats or increases ( rates simply don’t go down longterm but they do increase)
    is beyond command sense…
    See your local Branded dealership and buy the car you can afford take my advice conditions on the sale are accepted all the time if presented as reasonable.
    Happy car buying is your right

  29. William

    It is true that first you must select the car you want to buy and put a deposit down why not condition the sale subject to the finance options you have available
    #1 The dealership finance
    or
    #2 the finance arranged privately.
    OUR DEALERSHIP as do most legitimate branded dealerships with major brand names offer bank or Manufacture extended finance as low as 3.99% with a good longer acceptable payback term of 60/ 72 months,there is never a penalty for early payment or payoff so saving hundreds of dollars in interest is in the motivation for early pay off..
    Please Be responsible in reporting that Ontario Laws As they relate to car purchases is heavily regulatedby by the ONTARIO MOTOR VEHICLE INDUSTRY “OMVIC” with severe penalties financial and civil if any false or misrepresented statements are made from any dealer or any of its salesperson,so
    With a good down payment qualifying for a car loan in today’s market place new or used cars is quite easy with rates half of what banks charge and why would anyone use a prime interest rate that floats or increases ( rates simply don’t go down longterm but they do increase)lines of credit don’t work out long term on car loans and for several reasons mostly the depreciation of the car defeats the purpose of positive cash flow for 1 but again why tie up your personal equity when the costs are similar or less
    is just beyond good financial sense…
    See your local Branded dealership and buy the car you can afford discuss the money aspect up front take my advice test drive the payment terms first… conditions on the sale are accepted all the time if presented as reasonable.
    Happy car buying is your right.

  30. Shawn

    That is such a strange thing to offer you. I wonder if the dealer would get a higher “kickback”from the bank if you financed more. Although, typically there are limits on how much you can borrow on a particular vehicle. Definitely strange but I’ve seen a lot worse.

  31. Leon

    Banks are nothing but rip off artists nowadays. Save your pennies until you can afford something straight up. Don’t buy a new car for your first car. Used is waaaay cheaper. Good luck.

  32. Alex Madero

    Most “affordable” (still expensive, due to the fact that they manufacture in the cheapest countries and they sell them to us as if manufactured in Europe), cars are built in obsolecense. They are meant to last just a little bit after the warranty timeline. Then evwrything starts failing and value goes to the floor and turns into trash. Not to consider than even after all current and historic recalls, dealers still sell cars like if they had no transmission or high risk defects. And some problems wont’t be considered recall so you have to live with it plus maintenance expenses plates and gas and why not… Insurance and tires every now and then. Make a sum of all that money during 5 years incl tax and interest and divide it per day. You will be surprised that you spend $30 dollars or more a day just for transportation. And that for most medium low economy class is 15% of our income. I would suggest to be smarter than new car buyers and just buy a pre owned/ used with good quality history so your daily transportation expenses lower by 50% or more… Then use that money to whatever you want. Sunroof and leather with bad collision system is quite often offered higher than 25,000 value car.
    Good luck. Save your money and retire young.

  33. Joanne

    Line of credit are nicely described as a personal safety net. A friends 23 year old daughter went to the bank to apply for a lone on a 10 thousand dollar used car.

    She walked out with a $30,000. Line of credit which she argued she didn’t need. Well she used it all, eating out, being a bridesmaid many times over and a few quick trips. She hasn’t paid off anything on her car and has nothing should it need repairs.

    Her parents knew none of this and thought she would have known better. She hasnt even started to get an education and simply works as a server.

    It is a noose, not a safety net, and incredibly immoral if not criminal to give access to a large amount of credit to a financially naive person just starting her independence.

    i also work with new grads. Every single one received more money in student loans than they needed, lived it up, never learned to budget, and live to regret it!

    • Marg

      Was this friend’s daughter in post secondary,and had to drop out to pay off that CL that was meant for a car purchase? Just wondering how someone without:being in a post secondary school, without assets,or credit history can be handed $30k CL at ANY interest rate. Credit card companies prey on students during frosh week, and such. Handing them a cc without a JOB,setting many up to fail.SOME do use their cc responsibly,and earn more credit. Your story reminds me of two university friends who were “Christmas” grads.because their parents weren’t going to fund their $8k-$10k debts accumulated by December respectively,made up of adult beverages,and take out. Both of their parents were wealthy, but still pulled the plug to the ATM. Banks are not “friends,” and makes it pour when it rains.

  34. marg

    Not sure when this article was written,pre VW diesel gate,or post? I mention this because I am car shopping and was surprised to see the GENEROUS discounts in March 2016. Discounts of $8k on a jetta/passat.Is this normal because I stopped leasing to be able to WAIT for a car I wanted instead of scrambling to replace a lease.It’s been nice to look and wait because I have a trade. Not sure if someone will check back to explain how a dealer can give you an interest,and the fine print can add additional cost to a “low” interest rate? Also don’t understand those car exchange promos.where they offer various “deals” that are “transferable. Yet if a family,or friend does take the offer. A dealer suddenly now requires you all live at the incented car’s address,not disclosed within the black and white? Thus,many adults wouldn’t be able to make use of such a ” transferable” deal unless their live in significant other’s buying/leasing. Regulatory bodies in Canada still don’t really do much to protect consumers. Realize this when you read blogs like this one. Where this article’s writer Allan’s more knowleable than many. For something that represents their second largest purchase,ever,how is car buying still full of intentional games? Canada needs a lemon law for example where a manufacturer has 3 attempts to fix your car before they take it back. Some states require 100% of your money refunded regardless: finance/lease.

  35. Tim Tucker

    There is some sense in taking more money from the bank and invest this. First off, the money you are investing is appreciating with compound interest and the loan is on a declining balance. That means that there is less than a 5.25% difference in the interest spread (you have to look at total cost of borrowing and interest earned to see the exact difference). This plan makes sense if you are not a good saver, think of it as a forced savings plan, or if you use the money to better yourself. If you put the money into RRSP’s first and factor in the tax savings into the picture then you would probably by way ahead to borrow the money. You are increasing your tangible cash liquid assets. These assets are the hardest thing to get. Putting your cash into a depreciating asset like a car is the worst investment in the world to make. Use the banks money to make more money for yourself…….he might not have explained it well enough for you but it can work. See a financial planner…………..

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