Myth: 0% is a Deal!

The Word on the Street

The ever-so-kind businesses are so generous as to allow us to finance large purchases at zero percent interest!!! What a sweet deal, let’s take it!

The Truth

These deceptive deals can be devastating to anyone who fails to read the fine print.

Conflict of Interest

Businesses are not your friends. They are there to make a profit, plain and simple. They do so by offering a fair exchange of goods and/or services. So, do you really think that the deals they push the most loudly are the things that make them the least money? No way! How many car commercials have you ever seen where they just tell you the price of the car? Not many. It’s always what your payment would be, or, better yet, what your lease would be. Why? Because this is where they make the most money, and at the same time, they make their product more “affordable”.

An Example

Maybe I will just let the numbers speak for themselves. The numbers you are about to see are very powerful: parents please be advised.

I love Best Buy. Truly, I do. They have great stuff. Like the latest, shiny TV. Very nice, wouldn’t you agree? And look, they have a wonderful financing offer. No interest at all for 36 months! Seeing as how I happen to not have $1,600, I think I will take advantage of this great deal. I mean, the payment is only going to be $45 a month. Piece of cake right? I sign on the dotted line and practically strut out of the store, confident that my financial prowess has won me a great deal.

Six months later, it’s December. It’s Christmas time! The holiday is so hectic and crazy, that I forget to make my payment on the TV on time. No biggie, I figure. I’ll just pay $90 next month, and everything will be great. I get my next bill, and get hit by the shock. My balance should be $1,330. Instead, I see a balance owing of $1,562. And my payment should be $45. Instead I see a payment of $74.80!! What happened?

What happened was the fine print. Take another look the financing offer and you will see the phrase “Interest will be charged to your account from the purchase date if plan balance is not paid in full within 3 years or if minimum monthly payments are not made.” This means that if you miss even one payment, they can (and probably will) backcharge all of the interest that you should have paid, and add it onto your balance. Then, they will start charging you their interest rate (21-30%) until the TV is paid off in full. I don’t know about you, but I have been known to be late on a payment a few times in my life. Not often, but occasionally one of my many bills manages to slip past my attention. Unless you have never ever been late on a payment (and I am not sure that’s possible!), there’s a fair chance you might be late once in those three years. So what does being late on that payment do to your bottom line? See for yourself.

6 payments x $45 per payment + 30 payments x $74.80 per payment = $2,514

So. $900 in interest just because you made one tiny little mistake, like being late on a payment. Just in case you were wondering, that is roughly equivalent to paying $2,409 on the day you buy the TV. Below is a table that shows how much the TV costs if you miss a payment at the various stages of the repayment period. Notice that the longer you go before being late, the more the TV winds up costing. This is because the interest that is secretly accruing in the background has more time to compound against you. Then, when you are late, it pounces.

30 Days Same-as-Cash

So, it seems apparent that 0% financing can be a risky and expensive way to pay for things. Let’s see if we can find a better way. Suppose you just paid off your car, and now have an extra $200/month freed up. Instead of rushing out to renew that payment on a new car, you decide to reward yourself with a new TV. So, you save that $200 for just 8 months, and now have $1,600 in cash. You run out to Best Buy and, much to the dismay of the salesmen and the envy of your fellow shoppers, throw down cash for this magnificent TV. Let’s pause here and compare where you are at compared to where I was with my 0% financing deal. You have the TV, and no payment. I have the TV, and a $45 payment (for now, anyway). So let’s just suppose you decide you want to take the $45 that I am paying, and put it in the bank. If you can get a high-yield savings account that will give you 4% on you savings, then after 36 months, you would have $1,718 in the bank. So, after 36 months, I have my TV, and nothing else. You have your TV and $1,718 cash in your pocket. That’s enough to buy yet another magnificent set. Or you could keep saving…and pay cash for your next major purchase. This is how paying cash for things truly increases your wealth; if not only saves you from paying interest, if also allows your money to EARN you interest. Paying cash for cars is one of the best things you could ever do for your financial situation.

How do you start down the path of cash? Well, if you are in debt, the first thing to do is to get rid of the debt. This will require discipline and concerted effort on your part. You may have to deny yourself some things. It will be worth it, trust me. The next step is to simply save your money each month. It’s that easy. If you do so, your money will begin earning interest rather than paying interest, and your wealth will grow.

Posted on 4 Feb 2009