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I am in the process of re/building my credit, as I have never had a credit card until recently (I did everything with debit or checks). I do however have a decently sized number of student loans (on the order of $20k). They are dispersed between some higher-interest loans (mostly at 4.5% but some at 6.8%) and about half in lower interest loans (around 3.4%). In the past I was not always able to pay them much less on time, which naturally hurt my credit. After having been in a good paying job for well over a year, I have been paying regularly and kept up with them.

Due to some events that I won't go into, I'll be coming into quite a bit of money, relative to me. Suffice it to say, it's enough to pay off all of my debt and then some.

I would like to buy a house in the next few years. Due to housing prices around here, it will likely be on the order of $400-500k In order to do this I know I'll need a large down payment of at least %10 if not %20 to avoid the costly mortgage insurance.

Now related to the car: So far, my wife and I have gotten by using Lyft and public transportation. By Lyfting only when necessary and taking the bus/walking otherwise (I can bus directly to and from work luckily) we're able to save ~$200 per month over the cost of owning a car (after gas, insurance, etc).

So, after paying off my debts and saving some (ensuring maxed out 401k/IRA contributions for the year), is it worth the cost to buy a car? I would basically be paying $~200/mo for the convenience of owning a car and for the bump in credit that it would bring (assuming paying on time), potentially getting a better interest rate on the mortgage I hope to get.

I'm wondering approximately how much this benefit will offset the cost of the car. If it's enough, even, say, equivocal to $100-150/mo in value, then it makes owning a car more worthwhile to us. Lyfting and busing are great, but having a car gives much more freedom. I also have to consider the implications of not either putting that money directly into savings or into the down payment.

The logical next 'bonus' question is, if I have the chance to buy a car basically outright, is it worth it to still get a short-term car loan and pay it off quickly? I assume that paying cash for the car gives no credit boost.

  • Standard reminder: a used car in good condition can be considerably more cost-efficient than a new car. – keshlam Jun 20 '16 at 6:23
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It makes no sense to spend money unnecessarily, just for the purpose of improving your credit score. You have to stop and ask yourself the question "Why do I need a good credit score?" Most of the time, the answer will be "so I can get a lower interest rate on (ABC loan) in the future." However, if you spend hundreds or even thousands of dollars in the present, just so that you can save a few points on a loan, you're not going to come out ahead.

The car question should be considered strictly in the context of transportation expenses: "It cost me $X to get around last year using Lyft. If instead I owned a car, it would have cost me $Y for gas, insurance, depreciation, parking, etc." If you come out ahead and Y < X, then buy the car. Don't jump into an expensive vehicle (which is never a good investment) or get trapped into an expensive lease which will costs you many times more than the depreciation value of a decent used car, just so that you can save a few points on a mortgage.

Your best option moving forward would be to pay off your student loans first, getting rid of that interest expense. Place the remainder in savings, then start to look at a budget. Setting aside a 20% down payment on a home is considered the minimum to many people, and if that is out of reach you might need to consider other neighborhoods (less than 400K!). If you're still concerned about your credit score, a good way to build that up (once you have a budget and spending under control) is to get a credit card with no annual fees. Start putting all of your expenses on the credit card (groceries, etc), and paying off the balance IN FULL every month. By spending only what you need to within a reasonable budget, and making payments on time and in full, your credit rating will begin to gradually improve. If you have a difficult time tracking your expenses or sticking to a budget, then there is potential for danger here, as credit cards are notorious for high interest and penalties. But by keeping it under control and putting the rest toward savings, you can begin to build wealth and put yourself in a much better financial position moving into the future.

  • 2
    The last paragraph outlined exactly what I've been doing so far (and chose a credit card with the best cash back rewards value for my purchasing patterns), so that confirms my initial thoughts. The plan is definitely to pay off the high interest loans, but discussion with some of my CPA friends suggests that because the subsidized loans are pretty low interest (3.4% as mentioned), then it's less worth it to pay those off early than it is to save/invest the money that I would have used to do so. Unless you're suggesting that paying them off early provides a worthwhile credit boost. – Nate Diamond Jun 14 '16 at 18:36
  • @NateDiamond I guess it's a matter of timeline, if buying a house is a pressing need in the near future, enough so that it's worth it to take out a 3.5% loan to make the 20% downpayment (which is essentially what you'd be doing) then that is an option. But if you can manage to stay in a reasonable rental for another year, pay off your loans and save up the 20% in the meantime, that to me sounds like a better option. Paying off your loans will come into play when buying a house, because the lender is going to look at your income / total indebtedness ratio. – Derek_6424246 Jun 14 '16 at 19:17
  • Definitely good points. Purchasing a house isn't a hugely pressing need except that the prices seem to be going up at an alarming rate in my area, so it seems like every year I wait the more I'll have to pay by a significant margin. I'm still not going to purchase a house that I can't afford by most agreed upon standards, but it is disconcerting nonetheless that someone at my earning level is having problems finding a place to own anywhere near where I work. Anyway, thanks for the input, I think I will likely go with this plan. – Nate Diamond Jun 14 '16 at 19:42
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If you don't need to own a car for other reasons (i.e. if you are perfectly fine using Lyft and public transport), a new car loan should have just as much effect on your credit score as, say, opening a new credit card. Your credit score would take a temporary dip because of the hard inquiry to acquire the card, but your number of credit accounts would increase, and your credit utilization rate would go down, both of which are good things for your credit score.

There may be better ways to increase your credit score that others know about, but I don't think getting a car loan when you don't need a car is the best one.

Note, this assumes that you are paying all your credit cards off in full every month.

  • I am paying them in full every month. Part of the calculus I'm trying to do is to find out what the value of the potential credit boost is to me financially and add that to the change in the savings of owning a car. If it's negligible then there's not much question, but if it's non-negligible then it would be interesting to calculate how much value I'm missing in my calculations. – Nate Diamond Jun 14 '16 at 18:07
  • Nobody knows for sure, but I've heard that your mix of accounts is part of the scoring formulas. So a car loan would probably boost one's score more than just another credit card. – stannius Jun 16 '16 at 15:18
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I think a simplified version of what you are asking is how much benefit you will receive from lower mortgage payments on your future $400k (roughly) home loan by having a higher credit score than now, and whether taking a car loan now will increase that benefit more than the value of the car loan.

Since you already know the cost to you of the car loan, the other two thing you need to know in order to answer that question are:

1- the amount of increase a car loan gives your credit score, and

2- how much lower your mortgage interest rate will be with a higher credit score.

Answering #1 seems like fuzzy credit magic to me that someone else may be able to answer, but #2 should be easy to determine by talking to a mortgage broker to see what rate you can get with your current credit score, and finding out how much higher it needs to be in order to get a better rate. Then you can take the difference in mortgage payments between the two rates and compare that to your car loan value.

  • That's a great point. I hadn't thought of just querying a mortgage broker, though I don't know why they wouldn't want to do some legwork to build that relationship. Here's to hoping someone knows the fuzzy credit magic answer to #1! – Nate Diamond Jun 14 '16 at 18:33
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    You can check mortgage rates yourself at sites like Zillow (zillow.com/mortgage-rates). They let you enter your credit score, so you can play with it and see how much your rate improves when your score goes up 20pts. Looked to me you'd save about $20/month for every 20pt score increase. – RaskaRuby Jun 14 '16 at 20:55

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