[mathur2012]

Originally Posted by red_nemesis

Thanks for sharing this interesting analysis, but I beg to defer.

There are 2 fundamental flaws in your comparison.

First, you are comparing FD returns against the loan repayment but you are not paying off the loan from FD amount.

You should compare the loan option against the source of your EMIs, which would be salary as per my understanding of your post. Hence, you should compare the post tax returns on equivalent amount from salary if you had invested it instead of paying the EMI (which is RD in your case). So, in case of RD, if you calculate returns considering upfront payment of 1 lakh and interest loss on that it would come out about negative 40-60k as you calculated. Hence, not better financially.

I would really like to be proven wrong as I am myself against taking loans from financial gains POV, however numbers make more sense to me than words, I would be really glad if you can show me numbers/ calculations like the way I calculated for two scenarios A and B where A is when I take loan and B is when I pay upfront.

[rx100]

Originally Posted by mathur2012

For sake of calculations,
The car price has been set to 10 Lakhs, Also say I have 10 Lakhs in hand to buy the car in cash
Salary = 1lakhs.
Salary Return = 2.7%(Savings account Return)
Car Loan Interest = 8.55%,
FD Interest Rate = 6.5%
Tenure = 5 yrs
With Down payment amount of 1 Lakhs, loan amount will be 9 Lakhs Thus EMI for 5 yrs 18,487 Rs
........................
seems like car loan is the better financial decision what do you guys say?

I am not fully understand the salary part(EMI payment source??) here, and the formula you used to calculate the salary savings. If you could share how you arrived those figures that would be helpful.

I did some back of the envelope calculations with savings interest rate and obviously the cash payment worked out cheaper.

Taking same example as yours without the salary part.


-RX

[mathur2012]

Originally Posted by rx100

I am not fully understand the salary part(EMI payment source??) here, and the formula you used to calculate the salary savings. If you could share how you arrived those figures that would be helpful.

Hi ignore the data in the first image I shared, by mistakenly I shared wrong image, in that image the salary figure used for calculations was 80K I think but in the later images the salary savings have been calculated using 100K salary Per month. How I arrived at those figures is explained below.


If I pay upfront then I dont need to pay any EMI so each month I have 100K in hand which at 2.7% ROI after 60 months will be 64.3 Lakhs.

If I take loan then I need to pay 18,487 Rs from my salary as EMI, so I have 1,00,000-18,487=81,513 in my hand which at 2.7% ROI after 60 months will be 52.41 Lakhs.

Originally Posted by rx100

Attachment 2409883

-RX

Your cash in hand after 5 yrs in case of loan is incorrect. You will have 9,00,000(FD Principle) + 342378(FD Interest)= 12,42,378/- in your hand.

[Altocumulus]

Originally Posted by mathur2012

I would really like to be proven wrong as I am myself against taking loans from financial gains POV, however numbers make more sense to me than words, I would be really glad if you can show me numbers/ calculations like the way I calculated for two scenarios A and B where A is when I take loan and B is when I pay upfront.

I have had this discussion many times in this forum that Loan makes better sense because interest is charged at reducing principal while FD is Compound Interest. One such example in this very thread : https://www.team-bhp.com/forum/india...ml#post5033513 (Car loan vs outright purchase)

A 8.5% loan at reducing principal is equivalent to 4.7% simple interest in a 7 year loan.

Example: For a 10L at 9%, in 7 years you have to pay 13.3L. Thats INR3.3L interest, therefore average of INR 47000 every year viz. 4.7% of 10L.

The added benefit is you have that amount liquid with you for emergencies, whereas if you pay outright you again have to build the corpus for 10L.

For people lot of disposable cash maybe it makes sense to buy in cash, however for the not so privileged it does not make sense to give away a significant portion of their corpus in my opinion. Its a psychological thing, similiar to House buy vs Rent. Renting makes sense nowadays hands down, however buying our own house is an emotional and psychologically feels more secure.

[yashg]

Originally Posted by Lobogris

When you are getting 6.5% but paying 8.5% to the bank, how can you expect to earn more by paying an extra 2% in interest?

Because of reducing balance. As you also pay a part of principal every month, your principal outstanding reduces with loan each month and eventually even though rate of interest is higher, you end up paying less. While in FD the principal on which you earn intrest goes on increasing every quarter because of compounding. So math works out.

[shankar.balan]

Fun to use bank’s money to buy your toys.
Its called the ‘play now, pay later’ plan.
(As long as you can afford to pay it back!)

Just meant to be light hearted. There was a Dennis the Menace cartoon to this effect long ago which is what triggered this post.

[rx100]

Originally Posted by Altocumulus

Even for this scenario it makes sense to take a loan. Car loan is reducing interest and FD is compound interest.

For example: For a 10L loan at 7.5% total payment including interest is 12,02,277 (effective simple interest 4.04%).
Same amount in FD at 6% for 5 years (tax saver option) , you will get back 13,46,855 tax free.
So all in all a gain of Rs 1,44,578 if you take a loan instead of paying upfront.

Originally Posted by mathur2012

Your cash in hand after 5 yrs in case of loan is incorrect. You will have 9,00,000(FD Principle) + 342378(FD Interest)= 12,42,378/- in your hand.

The missing piece in both the calculation is the interest part you paid back to the bank. Remember the bank gave you 9L(or 10L in former case) and you ended up paying that over 5 years and additional interest of 209220, and that amount came from one's own pocket and needs to be reduced from my final balance.

In simple terms, in both cash vs loan, you start with 10L and after cash payment you end up with 0, where as loan gives you 9L to invest in FD as it was sponsored by bank. Its like you invest the money given by the bank back to them for 6.5% FD, while paying them back with 8.55% interest over 5 years.

Salary part is irrelevant here, as with or without salary you have to find 18487 p.m to pay back the loan.
In loan case, your 9L FD will become 1242378, and you paid them 209220 as interest for loan from your pocket, so final balance would be 1033158.
In cash payment case, you end with 0 after purchase, but the same 18487 every month, even if you are stashing under the mattress with 0 interest, still end up with 1109220 after 5 years, a gain of 76000 over loan.

[rijo_tj]

Always always buy depreciating assets only when you have enough cash reserve.

Even then with that cash reserve never spend your own dime on those depreciating assets but use bank's money for that and let your own cash reserve work for you making you a profit greater than the interest you would pay on the loan taken.

If you are averse to investing, then atleast keep your cash reserve as it is for any kind of emergencies you might encounter in future.

This is simple modern economics.

[mathur2012]

Originally Posted by rx100

The missing piece in both the calculation is the interest part you paid back to the bank. Remember the bank gave you 9L(or 10L in former case) and you ended up paying that over 5 years and additional interest of 209220, and that amount came from one's own pocket and needs to be reduced from my final balance.

In simple terms, in both cash vs loan, you start with 10L and after cash payment you end up with 0, where as loan gives you 9L to invest in FD as it was sponsored by bank. Its like you invest the money given by the bank back to them for 6.5% FD, while paying them back with 8.55% interest over 5 years.

Salary part is irrelevant here, as with or without salary you have to find 18487 p.m to pay back the loan.
In loan case, your 9L FD will become 1242378, and you paid them 209220 as interest for loan from your pocket, so final balance would be 1033158.
In cash payment case, you end with 0 after purchase, but the same 18487 every month, even if you are stashing under the mattress with 0 interest, still end up with 1109220 after 5 years, a gain of 76000 over loan.

Won’t argue much with you, Will only say you are wrong here, how? Well,go through the thread. Have a great day ahead again.

Originally Posted by yashg

Because of reducing balance. As you also pay a part of principal every month, your principal outstanding reduces with loan each month and eventually even though rate of interest is higher, you end up paying less. While in FD the principal on which you earn intrest goes on increasing every quarter because of compounding. So math works out.

THIS IS THE CRUX here yet people don't seem to understand it. Thanks @yashg

[Schneller]

Originally Posted by mathur2012

seems like car loan is the better financial decision what do you guys say?

Although at first this looks like a good idea, this is all due to the mental accounting bias. Let me clarify. In your assumption, you have taken the fact that if you do an FD of 9 Lakhs and take that amount on EMI, you will profit.

You are missing one key thing. For this to be a like for like comparison, you need to play within that 10 lakh figure. In your calculations, you put a 10 lakh rupee downpayment on one end and a 1 lakh down + 9 lakh FD in the other end. What you didn’t count is you are investing another 11.1 lakhs in paying EMI for 5 years. You have made a plan with total capital requirement of 21.1 lakh.

For this to be a proper comparison, you need to calculate if you made an FD and you were paying your EMi’s from the same 9 lakh FD corpus. If you actually do this, you will need to pay 63.5k more at the end than what the 9 lakh FD will yield to you to cover the EMI. This 63.5 will be your interest expense. (Almost didn’t calculate to the .)

for this to work, you can do a market lumpsum investment in say an Index fund. Assuming 12% ROI, you should have about 1.2L more than what you pay at the end. This is again assuming you touch only the 9 lakh rupee corpus and keep withdrawing 18.5k EMI monthly. Add to this another 18.5k as per the mental accounting you did as an SIP, and you will have 15 lakh + this 1.2 lakh.

[The Rationalist]

The whole calculation is flawed, no way taking a loan is going to be better than outright purchase if you plan to park the amount in FD!

For a loan of ₹10 lakh, you will be paying EMI of ₹20,500 for 5 years. Every month the amount you owe the bank is getting reduced, but the major deduction is in interest and small deduction towards the principal. You are ínstead calculating as if you are paying interest at the end of 5 years and save around ₹1 lakh if you park the ₹10 lakh in FD! The only way a loan will be beneficial is when you can generate at least 1% return more than the loan percentage. If loan is 8%, you need to generate 9% to have a nominal profit. Not understanding economics is ok, please don't spread misinformation.

[Malyaj]

To all those who are saying that the interest is paid on a reducing balance, please understand how the EMI is arrived at. The interest rate quoted is implicit, it is not calculated every month on some reducing balance. To those who understand finance, the interest rate is the IRR on the loan from the Bank's perspective and applies to the entire tenure of the loan. If you sit and calculate the effective interest for every month, it will be highest in the first month and lowest in the last month. The interest rates thus calculated are meaningless by themselves.

So please understand that if you are taking a loan that carries 8.5% interest, you are paying 8.5% interest. Period. There is no reducing balance. That concept applies on corporate loans which are structured in a specific way. It does not apply on EMIs. So taking a loan is better only if you can guarantee yourself a way of earning more than 8.5%. You don't need an excel sheet to arrive at this decision. It is a mathematical concept that holds true at all points in time. You may want to take a loan despite the economics suggesting so for other reasons, such as to have contingency funds in your hands. But that is a non mathematical reason.

Lastly get rid of the notion that you can park money in a non-tax paying person's account and avoid tax on FD. Income tax will subject it to gift tax (any amount in excess of Rs 50,000 in a year) and the only way to avoid it is for the gift giver to pay tax as per his/her income tax bracket on the returns from the FD. In todays age, IT department has all information and you cannot indulge in this.

[UD17]

There are few banks who provides the OVER- Draft facility for the Car loans and Home loans. This OD facility i think is the perfect balance between the Cash Vs loan decision. You don't loose liquidity and at the same time you can reduce your principal by parking the funds.

[RijuC]

Please consider the Income Tax part also on the Interest earned on the Term Deposits/ FD. The Interest earned appears in the IT form 26AS and you are liable to pay the Income Tax in applicable slab. The banks already deduct the 10% Income Tax on the interest.

If you have home loan, take a top-up loan for the car. Don't tell the bank that you are taking it for buying a car. A customer with good CIBIL score can easily get the home loan top-up for renovation or redevelopment or home improvement. Some of the banks have conditions of minimum years after the home loan disbursement.

Never ever take any personal loan or OD from credit card and buy car/ invest in equity or any other investment.

[GeeTee TSI]

A sudden medical need for the same amount (as the proposed car loan amount) do not get served by banks in the same enthusiasm as offering car loans in the first place. My personal experience of scrambling together FDs and MFs come to mind, which thankfully met the need then.

If the cash outflow is a small fraction of the savings then the question of a car loan does not arise, but in practical terms, the aspirations form a significant part (if not more) of our resources!