The single greatest expense related to owning a car is not maintenance, fuel, insurance, or interest on a loan. It’s the vehicle’s loss of value over time, the accounting principle known as depreciation. In fact, Black Book, the auto industry’s authoritative source of residual vehicle values, reported that the annual rate of depreciation is forecast to hit 17 percent in 2018.
“We expect vehicle depreciation to increase and residual values to decline in 2018 as used vehicle supplies increase while overall demand stabilizes,” said Anil Goyal, executive vice-president of operations at Black Book. In 2017, the luxury-car segment had the highest depreciation rate at 23.4 percent — while even subcompacts annually lost 17.6 percent of their value in one year.
What makes depreciation so insidious is how the loss escapes the notice of most consumers. The expense is not realized until you sell your car. That’s when it becomes painfully obvious that owning a car costs many thousands more dollars than previously thought. In specific terms, if you buy a new vehicle today, the value of that car drops by as much as 20 percent the moment you drive it off the lot. After five years, that same car is likely to be worth less than half of its purchase price!
On average, a car depreciates 60 percent over five years. For example, a new $30,000 vehicle purchased today with a five-year loan could fetch less than $12,000 when you sell it — essentially taking about $300 out of your pocket every month just on depreciation — even as you faithfully send checks to cover your car loan and interest month after month.
The desire to avoid that pain has given rise to alternative business models, such as an all-inclusive monthly car subscription.Canvas, which is owned by Ford, allows its customers to put an attractive, reliable vehicle in their driveway — without wasting money on depreciation. The monthly fee covers maintenance, insurance, registration, interest, tires, and only the mileage that you drive.
Owning isn’t all it’s cracked up to be
You can try to mitigate that painful loss of value by buying a slightly used vehicle after its steepest decline in value in the first couple of years. You can also think ahead — by purchasing a car with the right set of features so that when you sell it, the depreciation is as low as possible. But no matter how you try to game the system, you can’t escape the fact that cars and trucks are depreciating assets, which puts those who buy — rather than subscribe — at a disadvantage if you’re trying to avoid it.
Besides, each step taken to reduce a car’s rate of depreciation further drains the pride and enjoyment of owning a cool ride. The expense even leads some frugal drivers to drive an older car that has clocked more than 100,000 miles. That’s the number of miles needed to finally see the depreciation curves flatten to nil. But just as the depreciation finds its low level, the cost of maintenance and repairs steeply rises.
To make matters worse, some predict the shelf life of new cars is on the decline. The infotainment and safety technologies found in new-vehicle models is moving at the same rapid pace as consumer electronics. As a result, selling a car without smartphone integration and USB ports — or without features like automatic braking, lane-keeping assist, blind-spot warning, and a backup camera — is like trying to sell a three-year-old smartphone. As the speed of innovation intensifies, the value of used cars declines. You can expect next year’s model to have even newer high-tech features that car shoppers must have.
So, when you think you’re saving money by forgoing power doors and locks, cruise control, or a navigation system — just realize that a car without those goodies could increase its rate of depreciation.
However, to complicate things further, since these technologies are improving rapidly, when you buy a car with those technologies it could mean those technologies quickly become outdated. You might pay a lot for them upfront when they’re new, but once something newer is released, their value actually drops more! So, adding goodies may also increase the rate of depreciation.
All consumers are well advised to take great care of their vehicles. But for car owners, a few scratches on the paint, or stains on the carpet, can reduce how much you get when you trade-in or sell your car. Of course, it’s nearly impossible to avoid wear and tear based on common usage of a vehicle. But one fender-bender — even when it’s not your fault — can end up on a vehicle-history report, downgrading the resale value. Besides, who wants to worry every day about dings and scratches rather than simply enjoying a vehicle and benefitting from the mobility it provides? The economics of car ownership also puts more pressure on owners to maintain the recommended schedule of oil changes and tune-ups — costs that are automatically covered with a car subscription.
The extra space or all-wheel-drive capability of an SUV is a nice perk — just as the high-speed capabilities of a powerful engine can enhance the driving experience. But with any vehicle that consumes more gasoline, a rise in prices at the pumps can deliver a hard hit to resale value.
Some of the most desirable vehicles — like a sporty Mercedes C-Class, ultra-safe Volvo S60, or a stylish Fiat 500L — show up on lists of the fastest depreciating cars. These cars depreciate more than 30 percent in a single year — a loss of value that can approach $15,000 in one year. And without making a significant downpayment, you could easily find yourself in an “upside-down” financial situation — in which the amount you owe in a car loan exceeds the current value of the vehicle.
An accident can quickly create an upside-down loan. The phenomenon is so well known that many vehicle purchase agreements offer “gap” insurance that covers the discrepancy between what a wrecked car is worth versus what is owed. Of course, you’ll pay an extra monthly premium for the gap insurance, even when you don’t need it. That’s yet another example of how the entire car ownership model is fraught with worry — and why so many people are seeking alternatives such as monthly car subscriptions.
Leasing, rather than buying, can alleviate some — but not all — of those concerns. Another strategy for reducing depreciation, and yet another pain point for owners, is keeping close tabs on your odometer. More miles means less cash when it comes time to sell and therefore faster depreciation. Yet, the length of a commute or the route for essential errands is often not in our control.
Something else not in your control is the broader economy and automotive market. A decade ago, after the global economic recession, the average annual depreciation of cars on U.S. roads was about eight percent. That’s when the auto industry came screeching to a halt, and fewer cars were sold.
Thankfully, the U.S. car market recovered — with several years of consecutive increases in car sales and a rising tide of vehicles coming back on the market after three- to five-year leases and loans. But because the economics have shifted in favor of used-car buyers, the average used car today depreciates nearly twice as fast as it did just four years ago.