When your credit history is a problem

Struggling to Afford a Newer Car

by Gary Foreman


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Gary,
About 4 years ago my husband and I (and our 4 children) hit a financial low. We filed for bankruptcy. Now our second car is in desperate need of replacement. We have been trying to learn 'frugality' over the past few years. How can we get a car that is a few years old and use our old car as a trade in? We will need to finance the car. Is this a possibility? Or will we just have to save for a couple of years until we can pay cash? Currently we pay cash for everything, but this would be a rather large expense.
Melanie

Based on available bankruptcy statistics, Melanie has a lot of company. During the year of 2012 in the US there were a little less than 1.2 million bankruptcies. Add another 75,000 in Canada and that's a lot of people who are trying to rebuild their financial lives. So what can people like Melanie do when they need to replace a car?

There are a couple of possibilities. Some are better suited to a specific family's needs than others. Let's take a look at the options available to Melanie.

First, as she already knows, the bankruptcy will show on her credit history and affect her ability to borrow money. In the US the bankruptcy will stay on her file for ten years. That will make it harder, but not impossible to borrow money.

Melanie will probably want to visit various used car dealers. When the talk turns to financing she'll need to be honest about the situation. She should tell them about the bankruptcy before they check her credit file. Some will automatically turn her down. Others may have some available financing for troubled borrowers.

She needs to make it clear that she doesn't want them to check her credit until she gives them approval. It's not that she's hiding anything. But her credit score could actually go down if a large number of dealers check her report. And many dealers would routinely do that even though they would automatically reject her because of the bankruptcy. So there's no need for them to check her report.

Shopping this way will take some time. Melanie is not only looking for a dependable used car at a reasonable price. She's also shopping for someone to lend her money at a good rate. And the interest rate on the loan could have a greater affect on her finances than any discount on the car's price.

There's another possibility for Melanie. If they owned a home before the bankruptcy it would have stayed with them through the process. After four years they might have enough equity to get a second mortgage on their home. But, that's probably a bad idea. In part because the bankruptcy will make borrowing expensive. And consuming your home equity is generally not a good idea.

There's another aspect that Melanie needs to consider before buying a newer car. A purchase would require borrowing money. Are they ready to go down that path again without getting into trouble? Remember that when you borrow you commit to repayments. And sometimes keeping up with them is painful.

Suppose Melanie did buy a car. What would the numbers look like? Because she has four kids we selected a four year old Dodge Grand Caravan. Not because we think it's the best van available, but because it's a popular one. According to Edmunds.com she can expect to pay about $9,400.

We went to Bankrate.com to check on financing. Used auto loans are going for about 4,5%. But Melanie won't get that rate. Because of their bankruptcy they'll pay a higher rate. How high will depend on many things. The size of their down payment will matter. How good a job they've done over the last four years keeping their other bills current will matter, too.

But, let's suppose that Melanie did borrow $9,000 and was able to get 10% financing. On a twenty-four month note that would still be $414 per month. And remember that's on four year-old car. For a family struggling to regain their financial footing that could be a huge bill if someone lost a job or got sick.

Another possibility that Melanie seriously needs to consider is keeping her current car. Could she repair and refurbish it if she put the money that's planned for payments into scheduled repairs?

Melanie doesn't say what's wrong with her car now. But if she spent $200 per month she could do a lot of fixing up. She might end up with a safe and dependable car for less money.

As a general rule, the cheapest car to own is the one that's already in your driveway. If you believe that you're facing major repairs, have a qualified mechanic check out the car. They can tell you what things need attention and how much you can expect to spend on repairs.

Remember that a newer used car could have problems, too. The worst combination would be to struggle with car payments and still have to find money to make repairs.

Most of us buy a car for two reasons. First, we want dependable transportation. But, we also buy so that we can feel good. The old car has lost status in our eyes. Every minor problem is seen as yet another reason to buy a new one.

Recently I heard that the quickest way for your car to depreciate is for a neighbor to buy a new one. Before Melanie spends thousands of dollars and commits to years of payments she might want to consider whether repairing the old car wouldn't be a better choice for her family.

Updated October 2013


Gary Foreman

Gary Foreman is a former financial planner and purchasing manager who founded The Dollar Stretcher.com website and newsletters in 1996. He's been featured in MSN Money, Yahoo Finance, Fox Business, The Nightly Business Report, US News Money, Credit.com and CreditCards.com. Gary shares his philosophy of money here. You can follow Gary on Twitter. Gary is also available for audio, video or print interviews. For more info see his media page.

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