I recently came across the How to Drive Free and Retire Rich slideshow on Dave Ramsey site via a fellow blogger Pat. The slideshow basically said the normal way thinking about car ownership is all wrong and there is a better way to go about this. Dave Ramsey proposes that you save your money first, invest, and use the proceed to buy your cars. After a while, you will accumulate enough money to make your car purchases self-funding for life, leaving you with enough cash flow to fund your retirement — which could be worth $5.5 million after 40 years. Essentially, the basis for “Drive Free” and “Retire Rich”.
Most Americans take out a car loan to buy a car. For a typical $26,000 car, the average monthly payment is $475 at an average interest rate of 9.6%. And after 6 years of ownership you’ve paid almost $33,000 for your $26,000 car, which is now worth may be $6,000. At this point you’re probably thinking about a new car and the cycle continues.
Dave Ramsey challenges the normal way and advocates these different ideas:
Let’s say you have a car that’s worth $1,500 today. Instead of going out and buy a new car, save the $475 for 10 months and you’d have $4,750. Add that to the $1,500 and you could upgrade to a nicer car that’s worth $6,250. You can keep going an in another 10 months trade up to a car that’s worth $11,000.
That’s pretty sweet!
Since the new car loan in the scenario above is 72 months, let’s continue saving $475 per month for the next 52 months. Assuming you invest your savings in a mutual fund that returns an average of 12% per year, you’d have $32,000.
By this time, your $11,000 car is quite old. Let’s say you spend $12,000 to buy another used car, you’d still have $20,000 left. This means that if your investment continues to earn 12%, you could afford to buy $14,000 to $18,000 cars every five years for the rest of your life.
Since you’ll never spend another dime on your cars for the rest of your life, you are now free to invest that $475 per month for your retirement. If you keep investing $475 per month in the same mutual fund returning 12%, you’d have
This sounds wonderful doesn’t it? My dad always said, “if it’s too good to be true, it probably is.” I think this is the case here. Although the concept is great, I don’t think the math is realistic. Let’s see some of the critical things that are missing from the picture painted above.
Again, I am not trying to say that the idea is bad — in fact, I think it’s a great concept. However, I do think it is unrealistic. So what can we take away? Well, here are a few good points that Dave Ramsey made:
So what do you think? Let’s hear it.