Why Do New Cars Depreciate Sharply?

Image by vovchychko via Flickr

You’ve read the stories, and maybe you’ve even experienced the rapid depreciation that new cars experience once they are driven off the lot.

Many people wonder why their cars depreciate so quickly at first, and we’re going to address some of the reasons below.

But to understand the sharp depreciation, you must first understand some fundamentals.

The New Car Cartel

New car dealerships are an oligopoly, a cartel of their respective industry.  They sell vehicles from a select number of manufacturers, and the prices aren’t very competitive when comparing the same vehicle across multiple dealerships.  This is because the dealers purchase the cars from the manufacturers at wholesale and that price isn’t going to vary much.

The Suckers Price

The price in the window is considered the suckers price.  If you walk onto a lot and pay the price in the window, then you’ve joined a club that you probably don’t want to be apart of.  Never pay the price in the window.  The price of a new car is already highly inflated, and the price in the window adds in a healthy margin of profit.

New Buyers VS. Used Buyers

There is a certain segment of people who buy new cars.  These are people who have been burnt by a used car, grew up only in new cars, doctors, lawyers, and other professions where image is important, etc.  Used buyers are people who either can’t afford new cars, or prefer to save money.  There are some circumstances that warrant a new car or a used car depending on your situation.  We’ve discussed these ideas in:

• Do I Need A New Car?
• Should I Buy A Used Car?

When driving a new car off the lot it immediately depreciates by several thousands of dollars, sometimes even as much as 25%-50%!

Why The Drastic Depreciation?

Now, finally we can discuss why rapid depreciation occurs.  As we highlighted above, there are generally two types of buyers, new buyers and used buyers.  When you drive a car off the lot it is no longer new and you have now narrowed the list of people who would buy it from you down to dealers and to used car buyers.  Here is the problem with those being your potential buyers:

• Dealers will not pay more than they can get the vehicle for elsewhere.
• Used car buyers will not pay the highly inflated price that you probably want for the car.

Those two things are the main reason why your new car is now worth 15%-20% less than it was 2 miles ago.  In essence, used car buyers let the new car buyers take the rapid depreciation hit on the chin for them, and this is why many millionaires will either by a used car, or a low-priced new car where there is much lower initial depreciation.  The moral to this story is, unless your job or image requires a new car, you should probably buy a good-looking used car that someone else lost all of that money on.