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Downsizing your car – when does it make cents?

Consumer Reports News: June 12, 2008 04:34 PM

Last month, we published a report on "When to downsize your car" exploring the financial realities of trading in a large vehicle early in the ownership cycle on a new, more fuel-efficient one. The findings are counterintuitive, suggesting that even owners of large trucks and SUVs might be better off holding on to their three-year-old vehicle for another year or two before selling it.

There has been tremendous interest in this subject, warranting another look at the topic to address perspectives raised by readers and the media, including ABC News, CBS Morning Show, NY TimesWashington Post, and many other outlets. As with other studies conducted at Consumer Reports, the final story summarized the findings from a veritable mountain of data. Over a several blog posts, I’ll dig deeper into our data to illustrate the concepts from the original article and clarify the advice to help you make the right decisions for your situation.

The miracle of downsizing
First off, I want to restate that Consumer Reports strongly recommends that everyone purchase a good, reliable, safe, and fuel-efficient car. With the numerous lists and powerful, interactive tools at ConsumerReports.org, you can quickly narrow your list down to vehicles that truly meet all those criteria. Regarding downsizing, we have always maintained that people should buy the most miserly model that satisfies their needs. And in every vehicle category, there are models at both ends of the fuel-economy spectrum.

Secondly, at the heart of our latest research is a cautionary note for those who have owned a vehicle for three-years or less and are still making payments: carefully consider the short- and long-term financial impact of trading it in. We hope all motorists move to more fuel-efficient models but suggest that they do so only when the timing is right.

Why downsize?
Of course, people are motivated to downsize by escalating fuel prices at the pump. But many consumers are feeling the economic squeeze on other fronts, leading them to want to also decrease their monthly car payments and possibly their insurance premiums. Those feeling the pressure on multiple fronts may be the most vulnerable to making a rash trade-in decision that hurts them in the long run.

Why not dump my SUV now?
If you’re just partway through a car loan, you may not have much equity in that gas guzzler due to hidden costs. We’re all too familiar with weekly gas costs and monthly payments, but the real dollars move silently behind the scenes. The biggest of these hidden costs? Depreciation. On average, depreciation now accounts for 46 percent of the owner costs over a typical five-year ownership period, with interest adding another 12 percent. (Fuel accounts for about 26 percent, on average.) So the bulk of your investment in this depreciating asset is quietly melting away, while you focus on the fuel costs.

In our analysis, we found that downsizing now may save $1,000 or more a year in fuel costs. Sounds good on the surface, but it’s a drop in the bucket over the long haul.

Consider that interest is stacked so the monthly payment has more interest in the first month than the last. And a vehicle depreciates greatly in year one, then less so with each successive year. Likewise, buying a new car means paying sales tax in most states. Trading in early, therefore, means moving from the most expensive period of ownership on one vehicle into that of the next.

To flip this around, if you asked, "What could I do to waste as much money as possible on a car?" My answer would be to buy new, finance it longer than you plan to keep the car, and then trade it in on another new car. This is exactly what we’re cautioning you against now.

We’ll dig into the numbers and explore the tipping point for selling your gas guzzler in the next installments.

Jeff Bartlett

For tips on saving gasoline with your current vehicle and advice on buying a fuel-efficient car, see our
green car guide.

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