Dreaming of a new car? Partner Physicians have unique options

If you find yourself dreaming of a new car this time of year, you’re not alone. The 2021 models are now out, which means I have more than a handful of clients asking me for guidance on how much they should spend on this large purchase. It’s an important question, and I know I’m doing something right when clients check in with me first before diving in. As a Certified Financial Planner (CFP), I do my best to help Partner Physicians put their assets to work as strategically as possible—which includes when and how to buy a new vehicle.

Most Partner Physicians I work with are in the fortunate position of being able to afford a fair bit of luxury. The caveat, of course, is that while you can probably afford anything you want—you probably can’t afford everything you want. So if you’re eying the new Mercedes E-Class (a beauty that ranges in price from $55K for the basic model to nearly three times that amount—plus California taxes!), deciding how you are going to pay is the first step in understanding how much you should spend.  

Generally speaking, the three payment options when purchasing a new car are leasing, financing, and paying a lump sum (note that some car pros advise never to say that you’re planning to "pay cash" as that means a lower profit for the dealer and a higher price for the buyer). You can also combine financing with cash. Here are a few rules of thumb to help you understand how you should pay and how much car you can really afford:

Option 1: Leasing

When compared to financing, leasing will often get you the most car for your money while also putting you in the driver’s seat of a brand new model. For clients who are passionate about driving higher-end, late-model cars, I often recommend leasing as long as the total amount of monthly auto payments is kept under 10% of your monthly after-tax income. That means that if you bring home $10,000/month after taxes and are leasing one car, your lease payment should not exceed $1,000/month—which may well put the new E-Class in range. However, if you are leasing or financing multiple cars, the total amount should not exceed $1,000/month, making it much wiser to choose a less costly option.

A note on the tax benefits of leasing: because all Partner Physicians are business owners, I often get asked about the potential tax benefits of leasing. While the tax benefits used to be quite straightforward, under today’s complex tax code, things aren’t so simple. As a result, calculating the real tax benefit involves looking at many nuances of your specific situation. You can learn a bit about the details in this article on the TurboTax blog, but your best bet is to talk to a tax professional (which I am not) to make the most tax-wise choice for you.

Option 2: Financing

Option number two is to finance your purchase by taking out a car loan. Here again, I recommend sticking to the 10% rule, ensuring no more than 10% of your monthly income is earmarked for your car payment. However, financing allows you put down as much cash as you’d like, which can help minimize your monthly payments significantly. One easy way to do that is to take advantage of a SCPMG 401(k) loan which allows for a no-penalty, no-tax loan of as much as 50% of your balance up to $50,000. Read more about this option in my article, A Hidden Benefit of the SCPMG 401(k). This can be an especially nice option if you keep a chunk of your 401(k) in bonds or cash, and it is almost always a better option than financing through a dealer, bank, or credit union (though I have seen a lot of 0% financing options lately, and no one can beat that price!). Note that there is some level of complexity involved in the 401(k) loan option, including maintaining an appropriate asset allocation, so even if you lean toward financial DIY, I recommend consulting a professional before taking this route.

Option 3: Paying a Lump Sum

The least expensive way to buy a car is to pay in full at the time of purchase, in cash. Even if you have the cash available, it’s important to look at a few financial details before breaking into your piggy bank.

As I mentioned earlier, if you purchase a new car in cash, the dealer earns less on the sale, which means the price often will be hiked up a bit to cover their loss. To avoid this, it may make sense to put a significant amount of cash down, finance the rest, and pay the loan off ahead of schedule to avoid most or all interest charges. If the cash is coming from your savings account, it is important that you maintain enough in your savings to cover any future emergencies. The general rule of thumb is to maintain enough savings to cover between 6 and 9 months of living expenses, though access to a line of credit may serve as a temporary safety net while you build up your savings again.

If you have enough cash on hand to cover those bases, then it’s probably fine to go right ahead and put that new car in your driveway—but with a caveat. After setting aside sufficient cash for your emergency fund, I advise limiting your cash withdrawal to no more than 1/3 of your remaining non-emergency savings. For example, if your annual expenses are $200,000/year and you have $310,000 in non-retirement savings, start by dedicating $100,000 of that cash to an emergency fund. Of the remaining $210,000, feel free to spend up to 1/3 on a new car—or as much as $70,000. That may not get you every possible luxury option on that E-Class, but it will certainly have you driving home in a pretty sweet ride!

Of course, every major financial decision should be based on your own financial big picture, so please use these suggestions as starting points when deciding how much car you can—and should—afford. And if you decide that paying cash is your preferred option, but you still have some saving to do to make it happen, my blog post Are you ready to make your dreams come true? can help send you on the path to success. Perhaps by springtime, after taxes are paid and your bonus check has arrived, you’ll be ready to purchase those new wheels you’ve been dreaming about.

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