During tax season you might hear advertisements from dealerships urging you to bring in your refund check to buy a new car. This is probably because, as one survey shows, a third of all Americans spend their refund on an auto-related purchase. And, since the average refund is about $3,000, according to the Internal Revenue Service, what's the best way to spend this money?
First of all, keep in mind that this is not "found money"; it is actually your money, being returned to you. But, since most people don't include refunds in their budget, the temptation is to view it as a bonus and splurge. Instead of blowing it on an extravagance, why not use it to get ahead of the game?
By all means, if you need new wheels, this could be a good time to make that purchase. But you should spend your hard-earned money wisely by carefully considering the following options.
1. Use the money as a down payment on a new or used car.
Perhaps the most important factor in securing an auto loan or lease for a buyer with shaky credit is a substantial down payment. Particularly for shoppers with poor credit, using a tax return as a down payment can create finance options that otherwise may have been out of reach.
"A $3,000 down payment does a number of things to help a customer with challenged credit," says Paul Scott, general sales manager at Nissan of Duarte. "First, it shows the lender how serious the buyer is about taking on a loan. It also reduces the likelihood of the buyer being upside-down during the life of the loan." But most importantly, he says, the reduction of the loan amount causes a smaller payment to fit better into a buyer's budget, and therefore it's easier to get approved.
2. Fix or upgrade your current car.
Many cars these days can be driven well past 100,000 miles, provided the vehicle is well maintained. Many experts say that maintaining a used car is much thriftier than buying or leasing a new one. So where do you spend your upgrade money?
It is no secret that a set of new tires can greatly improve ride quality, reduce road noise and even improve fuel economy. A major tune-up further boosts fuel economy, smooths out a rough idle and prolongs a vehicle's life.
Other inexpensive repairs that can go a long way to rekindling your pride of ownership include clearing foggy headlights, getting a thorough detail and repairing interior rips and tears. New floor mats go a long way toward improving an older car's interior appearance. Additionally, dent removal and paint touch-ups can often be done by a mobile service for just a few hundred dollars.
These fixes certainly don't top the thrill of new car smell. They will, however, make driving your current car more enjoyable and will likely prolong the car's life, reducing your need to get a new car and saving you money down the road.
3. Buy a really inexpensive used car.
While it will require some careful searching, you can still buy a used car for about the amount of your tax refund. At Edmunds.com we purchased the "Debt-Free Car," a Forest Green 1996 Lexus ES 300 with 135,000 miles on the odometer, for $3,400. We spent a total of $3,286 in maintenance over the 13 months of ownership, which worked out to $253 per month on repairs. To find our car we used three popular online search tools: AutoTrader, eBay Motors and Craigslist.
While buying a used car for cash helps you avoid a monthly payment, keep our experience in mind and set aside a budget for maintenance and repairs. They are part and parcel of driving an inexpensive used vehicle.
4. Make a large drive-off payment on a new-car lease.
Normally, Edmunds.com recommends that you spend about $1,000 to start a new lease. However, if you start your lease with a larger down payment, the monthly payments will be a lot lower. Now only are lower payments easier to keep up with, but if you want to extend the lease, you may be allowed to continue to pay this lower payment on a month-to-month basis. This provides you with both flexibility and affordability. If you plan to do this, however, check your contract carefully to make sure this is allowed, since some leasing companies have different rules. And make sure your drive-off payment is protected by GAP insurance in the event of an accident in the first few months of driving.
5. Pay down an existing car loan.
Some people might consider using their tax deduction to knock down the balance on their existing loan so they are carrying less debt. There are two ways to do that: Make an extra payment or two, or pay down the balance. Making extra payments means you pay off the loan sooner. Paying off the balance will reduce the amount of interest paid over time. If you want to go either of these routes, call the lender and find the best way to proceed.
6. Refinance your current loan.
If your car loan has a high interest rate, or you have improved your credit rating since you took out the loan, you could use your tax refund as an opportunity to structure a better loan. Use all or part of the refund to reduce the principal on the loan and get a better interest rate on the balance.
If, after reading this, you still decide to buy a new car, remember that all the rules of smart car shopping still apply. One last piece of advice: Don't simply walk on the car lot carrying your IRS refund check, ready to be signed over. This will send the wrong message to the car salesperson: that you are perhaps desperate and unprepared for the car buying experience. Instead, tuck your check in the bank and decide ahead of time whether to lease, or buy new or used. Only by planning ahead and applying sound advice to car buying can you make the most of your refund and save money in the long run.
To find a dealership that knows how to treat shoppers right, please visit Edmunds.com's Dealer Ratings and Reviews.