Buying a vehicle with your tax return? Here’s what you need to know

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Susan Meyer

Senior Editorial Manager

  • Licensed Insurance Agent — Property and Casualty

Susan is a licensed insurance agent and has worked as a writer and editor for over 10 years across a number of industries. She has worked at The Zebr…

It’s officially tax season. As with every tax year, for Americans this means a lot of paperwork, searching for receipts, parsing complex IRS language and trying not to toss out your W-2 with the junk mail. But for many of us, there’s often one dependable bright spot to an otherwise monotonous task: the tax return.

This year, if your tax situation left you with a significant tax savings, you may be thinking of putting whatever return the government grants you towards something responsible, like a new car. The following advice can help you make a smart financial decision.

Plan your vehicle purchase

Even if your tax return is burning a hole in your pocket, you need to be careful to plan for the life of your vehicle purchase. If you’re not covering the entire purchase price of the vehicle with your tax return, there are a few smart ways to apply the lump sum. Here are some things to consider:

  1. Budget: Determine how much you can afford to spend on a car, considering not just the purchase price but also ongoing costs like insurance, maintenance and fuel.

  2. Research: Research different makes and models to find one that fits your needs, budget, and lifestyle. Consider factors like fuel efficiency, reliability and safety ratings.

  3. Condition: Decide whether you want to buy a new or used car. While a new car may come with a warranty and the latest features, a used car can be more affordable and may offer better value for your money.

  4. Financing options: Explore your financing options, including loans and leases, to find the best deal. Consider factors like interest rates, loan terms and down payment requirements.

  5. Insurance costs: Get insurance quotes for the cars you're considering to understand how much you'll need to budget for insurance premiums.

  6. Additional costs: Factor in additional costs like taxes, registration fees, and any required maintenance or repairs. Don’t forget about the financial risks that come with a car in addition to the rewards.

We spoke to Rob Jupille, President of RTJ Financial Management in Santa Monica, California, who offered his advice. As with any large purchase, explains Jupille, start with a cash flow analysis and budget to determine what kind of payment you can afford each month. “If there is a lump sum, as with a tax refund, buyers can apply it toward the loan to make their ongoing monthly payment manageable.”

Determine how much car you can afford

Use this calculator to help you determine how much car you can actually afford. Enter your tax return (or whatever portion you plan to apply) to the down payment. Then you can help calculate monthly expenses related to the vehicle.

In addition to calculating the monthly payments themselves, don’t forget to consider additional operating expenses, registration fees, vehicle sales tax and maintenance costs.

Make a smart loan decision

Most of us finance vehicle purchases, meaning we get a loan either from a dealership or from a private financial institution (like a credit union). It’s important to make an informed decision about your vehicle financing because what may seem like small differences initially (a few percentage points in interest) can end up costing you a lot more money over the life of the loan. It’s particularly important to be wary when it comes to subprime loans.

A subprime loan — defined as a loan made to someone who might have a difficult time paying it back — can get borrowers into financial trouble quickly and can, in many cases, result in the borrower losing their car or even ending up underwater on their loan. Subprime loans, by definition, have higher interest rates (to provide an incentive for the lender to lend to someone who statistically may never pay them back fully) and therefore increase the total price of purchases made using them. Approximately 20 percent of all auto loans are subprime, so if you’re planning a tax-return financed vehicle purchase this tax season, you’ll want to be aware of your loan options.

“Vulnerability to subprime loans is always a potential problem for some borrowers,” explains Jupille. “The easiest way to not fall prey to predatory lending (or pressure at the dealership) is educating oneself.” Start by knowing what your credit score is before you go to the dealership. Then, look up car loan rates for borrowers with credit scores similar to yours, says Jupille. “This way,” he says, “if the dealership offers a much higher rate, you can comfortably negotiate or walk away.”


Budget for insurance expenditures

We’ve talked about different ways to save money on your car insurance policy, but paying the entire policy in full (rather than monthly) is one of the best ways to save. Drivers who pay the full price of their policy up front can save as much as 10%, compared with drivers who make monthly payments. This is one of many car insurance discounts to consider. 

“Most monthly plans include installment fees,” adds Neil Richardson, The Zebra’s resident insurance expert, “even though our report doesn’t really reflect it, making the difference between paying in full and monthly even larger."

"It’s also important to note that anyone looking to buy a car should get auto quotes before they sign any vehicle paperwork so they can properly budget for such a large purchase. Getting quotes ahead of time can help new car buyers avoid a major, unexpected surprise.”

For your financial health, you might consider putting some of your refund toward your next insurance policy.

Reality check

Big purchases — like a new (or new-to-you) car — can be thrilling. But before you take the leap, consider your other financial responsibilities. “Any ‘windfall’ like a tax refund should be applied where it has the highest impact. Here are some final things to consider before making the leap to buying your new ride:

  1. Financial stability: Consider your overall financial situation, including your income, expenses, and savings, to ensure that buying a car with your tax refund won't put you in a precarious financial position.

  2. Future needs: Think about your future transportation needs, such as whether you'll need a car for commuting or if your lifestyle may change in the near future.

  3. Long-term goals: Consider how buying a car fits into your long-term financial goals, such as saving for a home or retirement. Or are you considering starting a business and need a car for business use? Business owners can find tax deductions for their motor vehicles when used for business purposes.

  4. Alternative uses: Think about whether there are alternative uses for your tax refund that might provide greater financial benefit, such as paying off high-interest debt or investing in education or training.

If you do decide now’s the right time for a new vehicle, we can help you simplify your search for insurance for your vehicle. Happy driving, and good luck this tax season!