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Little bit about my situation-

Bought a car with cash about 5 years ago, at the time it was a year old. That car is now a total loss and I’m receiving about 5k for it from my insurance. I’m now in need of a car and thinking about putting the money back as a down payment and financing a new car. The only issue is my credit score is at 590 (coming out of college). I don’t want to put the money back into an old used car that will cost me money in repairs.

Should I pay off all of my credit cards with the money back from my insurance (it would cover all of my credit card debt) and save for a down payment for a few months (while borrowing a friend’s car in the meantime). This would boost my credit score and possibly put me at a better chance of getting a lower interest rate

OR

Should I use the money for a down payment and finance a 1-2 yr old car? My only worry with this option is having higher interest rates due to my current credit score

  • 36
    You can buy many perfectly good cars for under $5K. The "cost me money in repairs" is really not something to worry about. Of course things can happen (as you apparently found out), but overall the money saved on higher purchase price & interest will almost certainly be more than the likely cost of repairs. – jamesqf Jul 8 at 16:32
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    you can't have your cake and eat it too. Take care of your debt, and that might mean settling for a less flashy car. – njzk2 Jul 9 at 3:05
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    @user87816: So you'd rather mooch off your friend? I wonder how long this friend is going to remain a friend. Of course you could buy the cheap car, drive it until your credit cards are paid off &c, then use it as a trade-in on the more expensive one. – jamesqf Jul 9 at 5:11
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    Having being severely in CC debt myself about 10 years ago, to the point I was barely able to afford paying the interest (repaying capital, lol, in my dreams!), I don't even consider it a choice. You get rid of the CC debt and save up. That's the only sensible option. You're in a position to wipe your debt; DO IT! – Gabriel C. Jul 9 at 13:40
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    "I don't want" is often not a good advice, financially spoken. – glglgl Jul 9 at 14:55
42

CC debt is My Hair Is On Fire!! debt, because the interest rate is so high.

So... yes, you should pay that off first (unless you like subsidizing my 1.5% Cash Back Rewards and "Fat Cat Bankers" while slowly impoverishing yourself).

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    I speak from personal experience when I say that when you're in deep debt, none of your options are good. – RonJohn Jul 8 at 16:45
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    If you haven't already done so, go through your budget with a fine toothed comb. Leave a small amount for enjoyment, but for a while you'll have to live lean. Unless, of course, you want to light your hair on fire again... – RonJohn Jul 8 at 16:47
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    @stannius the APR on that card is a least 18%. I wouldn't be surprised if it's 23% or higher. To me, that qualifies as hair on fire. – RonJohn Jul 9 at 5:00
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    @computercarguy: But there's no reason for the OP to go into car debt. He has about $5K from the insurance payout, and my local Craigslist has ~75 pages of just Hondas and Toyotas for under $2K. These would serve perfectly well to get him to work and back until he pays off his CC debt. – jamesqf Jul 9 at 17:54
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    The OP also states that they could use public transportation. That's almost certainly the answer-- pay off the CC debt, don't worry about buying a car for now, take public transportation, and save up for the car down the line. I saved an enormous amount of money using buses and trains for ~10 years after college, and only bought a car when public transit wasn't a realistic option for a new job. – Upper_Case Jul 9 at 19:44
20

You're asking several related questions - about credit scores, how to use cash, and how to buy a vehicle.

If we break them all down and start with what to do with your $5k in cash - it makes sense to use that to pay down credit card debt, since it's likely costing you an arm and a leg in interest right now. Even if you decide you need a vehicle badly, and can afford monthly payments on a vehicle loan, paying down the credit card debt and then immediately borrowing money will mean you're paying a low-interest auto loan rate instead of a high interest on the credit card.

The good news is, paying off your credit card debt will likely have a big, positive impact on your credit score. In a comment, you mentioned that your utilization is around 97% right now. That's going to make a huge impact on a credit score. Utilization is one of the heaviest-weighted factors in typical models, and 97% effectively puts you in the worst-scoring bracket. The good news is, utilization is memoryless so within a month of you paying off your balances, your score will instantly pop up as if that high utilization had never happened.

While on the subject of credit scores, it's worth getting information on your credit report to understand why it's so low. As mentioned, utilization is likely a big impact, but since it sounds like you're young and don't have a long (10+ years) credit history, there may be other factors influencing your score as well. Use a free service like creditkarma, or request a free report directly from the major bureaus. If there are things you don't understand in your report, ask specific questions here. Now - while you're young - is a good time to establish good habits.

Finally, you've asked about buying a vehicle. These questions are a little hard to answer because there will always be some subjectivity and personal preference. Some people will be risk-averse enough that buying or leasing a cheaper new car (and the warranty that comes with it) will be a benefit over paying cash for an old used car. Still other people will want a certain vehicle, or certain features, or will want to change vehicles more or less frequently. Really, before you decide on buying old, financing to buy new, or leasing, you need to decide what's important to you in terms of the vehicle you want, and what you can afford in terms of down payment and/or monthly cash flow, and then you can pick the best approach to getting yourself there.

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    That is great news about credit utilization being “memoryless”. I definitely was inclining towards using the money to pay off my CC debt first. As for my personal preference, I mentioned in a previous comment that I would want to buy something newer (within 1-4/5 yrs range). I do use Experian to view my credit report. Utilization and old debt history is what’s impacting my credit the most. – user87816 Jul 8 at 17:03
  • Is there any tool to see what my credit score would be if I paid off my total CC debt? – user87816 Jul 8 at 17:09
  • No such tool that I'm aware of - it would be hard to build such a tool since it would mean running your entire report through a scoring model before and after the change. Also, many real-world events will tie into multiple factors (paying off a credit card drops your utilization and your total debt, which are separate factors). Tools like creditkarma will help you understand factors relative to each other, which can at least help you get a rough idea of what to focus on. – dwizum Jul 8 at 17:39
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    @user87816 Capital One includes simulation of paying off debt/taking new loans/etc on the credit monitoring tool they provide to card members. It looks like the simulator may be available without having a card from them: creditwise.capitalone.com/home – Dan Neely Jul 9 at 4:12
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    @Dancrumb true enough, although at least one (IIRC several) of my cards have gone from offering presumably in house designed fake-o credit scores derived from Bureau X's data initially to actual Bureau X FICO scores afterward. From my perspective the situation's gotten better over the last few years; but that could just be due to the subset of banks I do business with. – Dan Neely Jul 9 at 14:50
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Do not buy a car on credit. Ever. The fact that you have credit card debt makes it an even worse idea, but there are just so many reasons you should never buy a car on credit. For $5000 you can get a great, excellent-condition car. You could probably even get one for $3500-4000 and put the rest towards paying off the credit cards.

I don’t want to put the money back into an old used car that will cost me money in repairs.

New cars cost more in repairs.

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    @Niko1978 that's what insurance is for. – dwizum Jul 9 at 12:42
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    Do not buy a car on credit. Ever. This seems like narrow advice that doesn't really address the OP's reality. If they were happy with a $5k car (they've said they aren't, by the way), they'd be much better off putting the $5k cash against their credit cards, and then borrowing $5k on a car loan (at a vastly lower rate than their credit card). – dwizum Jul 9 at 12:44
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    Borrowing on the car, or paying for it in cash, doesn't have anything to do with being under-insured. If you pay $5k cash for a car, and then total it the next day, your assets are still taking the same hit as if you'd borrowed to buy it - it's just a hit you've already paid for. If you're worried about a loss from totaling the car, get it properly insured regardless of if it's financed or not. – dwizum Jul 9 at 12:46
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    @R.., I'm not sure why you would think new cars break down at the same rate of old cars, but you're just wrong. – Ben Jul 9 at 15:55
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    @R.. I have purchased 2 new cars in the past 3 years and have had exactly one sensor go bad (which only cost me $100 to fix, $60 for an OBD scanner and $40 for the sensor itself). The VAST majority of damage to the cars has been incidental road damage (stick on the 402 returning from Niagra Falls busted a sensor on the car front axle, rock from a construction truck cracked a windshield, fender damage from a snow plow). New cars carry much lower maintenance costs. That being said, 1-5 years old are still very low maintenance, and have already been lot-depreciated. – GOATNine Jul 9 at 17:23
3

I would rather sacrifice a few months being without a car and using public transportation (to get a better car later)

Do you need a car at all? In this modern world of lyft and lime and uber and boom and whatever the scooters and on-demand rideshares in your area are called, then do a cost analysis and see if you're better off without a car.

Work in all the running/owning/licencing/insurance costs of a car, and compare that annual cost with however much it would be to use an on-demand service, or to buy your own scooter/e-scooter or bike for short trips.

Your credit score will benefit from not having additional debt - and from some points of view, a car is a liability not an asset. And in the meantime your down-payment dollars can be working for you elsewhere.

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    Using taxis/Lyft/Uber/etc on a daily basis is not going to be viable. Even if it's "only" $8 a ride, that add up quickly, especially if you need to go several places in a day. Seeing as the OP wants an expensive new car, they aren't likely to want a scooter. Not to mention that scooters can also be expensive and are unsafe, due to other drivers not paying attention. – computercarguy Jul 9 at 16:18
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    @computercarguy $500-1000 on restaurant food in a month at $5-10 a meal, 100 restaurant meals per month? How? – gerrit Jul 10 at 8:11
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    @computercarguy That's why public transportation exists. When I was so far in debt that I could barely cope with it, I used the bus, my bike, and my feet to go everywhere. It cost me 80$/month and that's one of the main reasons I was able to repay >$10k CC debt in about 2 years and end up with almost $10k in savings instead. I ate lots of ramen too, but I still went to the restaurant regularly. It was all the transportation costs that translated to saving. – Gabriel C. Jul 10 at 13:20
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    @gerrit, I guess you've completely missed my point: something that seems inexpensive once can really add up if done a lot. – computercarguy Jul 10 at 16:05
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    @computercarguy: While I agree about weather, the distance you can bike (once you get in decent shape) is further than you may think. My longest regular bike commute was 17 miles, generally done in a bit less than an hour. These days many offices do have showersfor bikers, people who exercise at lunch, &c. – jamesqf Jul 10 at 17:25
2

97% credit utilization is definitely driving your credit score down significantly, utilization accounts for 30% of your credit score. More importantly though is the high interest rate of credit card debt. The ideal is of course to pay off that credit card debt as quickly as possible to minimize interest. If you can get around without a car by using public transportation or a bike for a while then you should embrace the inconvenience and get rid of the credit card debt. Then save up for a car purchase.

Counting on borrowing a car doesn't seem like a good solution. If you absolutely need a car then a good compromise is probably reserving enough for a 10% down payment on a relatively inexpensive used car and using the rest to pay down credit card debt. Even if you don't get a very good rate on your car loan, you'll be saving money compared to your credit card rates. Much better to pay 6% interest on a car loan than 18% on credit card debt.

All cars will have repairs, and newer cars almost always cost more to insure than older cars, so it doesn't necessarily make sense to focus on a 1-2 year old car. If I were in your situation I'd go for an older car known for reliability, there are plenty of quite old cars that don't necessarily look great or have many features that still run reliably. Years ago I got a ~15 year old car and drove it for 5+ years with very little maintenance cost. Certainly lucky that it lasted so long, but I see plenty of older cars driving around every day. Thanks to the internet you can likely tackle a lot of little repairs yourself to save even more.

  • I mentioned in an above comment that I would prefer not to buy a car worth 5k or less. I would rather sacrifice a few months being without a car and use public transportation or ask relatives for a temporary car. I will most likely pay off the debt first & save for a down payment in the meantime – user87816 Jul 8 at 17:08
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    That's understandable, and that's part of why I mentioned just reserving enough for a 10% down payment, if you find something in the 10-15k range that means 1-1.5k down payment and 3.5-4k toward credit card debt. Per the first paragraph though, waiting on the car purchase is certainly ideal if you can swing it. – Hart CO Jul 8 at 17:15
  • waiting on the car purchase is certainly ideal if you can swing it - absolutely - if not for the purpose of saving up a downpayment, then certainly because waiting will improve your credit score (assuming you've paid off the credit cards and don't do anything foolish in the meantime). – dwizum Jul 9 at 12:39
2
  1. 1-2 year old car ??? why ? You can easily get a reliable 5 year old car. Depreciation on 1-2 year old cars is ridiculous.
  2. 590 credit score with 97% utilization is pretty good. Depending on your credit limit paying off $5000 of that will increase your score a lot.

So imho you should use the money to pay off some credit cards, then (after they report current balance) buy a decent car with little to no money down.

Most importantly, though, you need to work on the credit card debt. You're probably costing yourself thousands of dollars a year that you don't have to spend. Imagine saving that money (or better, imagine investing that money and getting about 4x that money over the next 40 years).

2

Get in debt to buy a car is not a option to me, even more if you have credit cards to pay. First of all, you need to analyse if you really need a car where you live, considering cost/benefit. My advise is get out of debt and if you are sure about needing a car, so buy a cheap one. Finally, work hard to increse your income so this kind of thing is not a problem in your life anymore.

1

My experience says to spend $2000-3000 on a reliable, used car and keep the rest for immediate repairs on the car. Also, use this money as a safety net for other expenses that come up, so you can pay cash for it, instead of add to your credit card debt.

I know this sounds somewhat backwards, but here's my reasoning.

Your credit doesn't matter right now. Your spending habits do. If all you want are expensive things that you can't afford without going into debt, then you are always going to have bad credit, no money, and you'll be working your whole life to afford things you bought years ago. You need to address this version of materialism before it gets you in serious trouble.

A cheap but reliable car is going to save you money in the short and long term, even if you need to fix it right away. Dropping $200 on repairs in a month isn't fun, but a $250 monthly payment is worse. The money you save on car payments can go towards your credit card debt, saving you lots of money in a short time.

Let's do some math.

At $250 a month for a car payment (really, a modest payment for a new car and a low credit rating), you will take 20 months to regain $5000. This mean you might be borrowing your friend's car or taking a bus for almost 2 years if you put all your money on the credit cards. Or, you can make your life easier and buy the cheap car and take those same 2 years to pay down/off the credit cards.

Again, taking 2 years to pay off credit cards when you might be able to pay them off now seems backwards, but there's reasons for my "madness". If you pay off the CC's, you may have the idea that it's OK to use those credit cards again, which gets you back to where you are now, just with more stuff and no $5k. You still won't have a car, you're still borrowing a car or taking the bus, and you still aren't saving for a car due to new credit card bills.

Think of your situation as a hole in the ground, because debt really is this way. Unless you have the ability to jump completely clear of the hole, you're just going to land on the edge, grasping for anything to hold onto before you fall back in, probably taking a bunch of dirt with you, burying you further and making it harder to dig out. Instead, make thought out plans on how to get out of debt and follow the plans, until it's time to change your plan. Digging out slowly means you are less likely to have the hole fall in on your, burying you again.

Since you are just out of college, you have plenty of time to get out of debt, get a nice car, and all the other things you want, but you have to do it intelligently. A cheap, reliable car will save you a lot more money than buying a new car. Even $1000 a year in repairs is less costly than $3000 in monthly payments, repairs, and higher insurance.

When someone talks about credit card debt and trying to afford things like a car, I always point to the book "America's Cheapest Family". I don't get anything for "advertising" for this book, I'm simply another satisfied customer. (Any referral is not mine, as SE/SO has added them to my posts previously.)

This family has several kids, a low income, and finds ways to afford new cars, houses, moving across the country, taking vacations, and more. Most of my advice comes from this book mixed with my own experience. This family also helps others fix their finances in their own real life, so it's not just a bunch of ideals that don't work. This book is filled with examples of how to save money, yes, but it comes from a lot of experience, trials, failures, successes, and time. They make it interesting, since they include their own life experiences in the examples, rather than it just being a dry "financials" textbook. I've read the book twice and it helped me figure out a few more things to get me out of credit card and student loan debt.

Well, good luck and I hope I helped!

  • You're making the assumption that the car will be reliable and that nothing will happen to it. If OP is unlucky and gets wrecked by a careless driver or if his seemingly fine car turns out to crap out quickly, then he's out the car's cost and still in debt, super close to the CC credit limit. That's a risky, unsafe gamble. – Gabriel C. Jul 10 at 16:37
  • @GabrielC. I said to buy the car outright with the $5k the OP has, not to buy on credit like everyone else does. With a car purchased outright, insurance is going to payout to the owner, not the creditor. I also said to keep the remainder for repairs. Many repairs can be done by an owner, as I've done with the majority of my cars. I've kept cars going to 215k miles and owned them for 10-15 years, even when bought used. An accident can happen anywhere, anytime, and it's going to cost you regardless. Not to mention that it's going to cost more than the $5k put towards the CCs. – computercarguy Jul 10 at 16:47
  • I'd agree with buying the $2K car, but use the other $3K to pay down the credit cards. That starts saving interest right away, and if the car does need repairs, they can be on the credit cards again. – jamesqf Jul 10 at 17:27
  • @jamesqf, putting car repairs on CC's just reinforces the need and use of the CC's. The way to pay off that debt is to learn how not to rely on it. Continually relying on CC's will cost you more in interest than not using them again. – computercarguy Jul 10 at 17:38
  • @computercarguy: I disagree. A car repair is an emergency expense, and in this case, an unlikely one. So the OP has a choice between retaining cash while continuing to pay interest on $3K of existing credit card debt, or paying off that debt now, with the option of putting the possible future expense on a card. Seems like an obvious choice to me. – jamesqf Jul 11 at 5:03

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