Pay Off Your Car? Here's What to Do With the Money That Used to Cover Your Car Payment

If you're reading this, I'll assume that you've recently paid off your vehicle, or you're getting really close to doing so. Congratulations! Auto loan payments can be a huge drain on your personal finances each month. According to data from Edmunds, in Q1 2023, the average monthly car payment for new vehicles reached a high of $730, while used vehicle payments averaged $551. That's a lot of money to set aside in your budget each month to make sure you have a means of transportation. So paying it off and putting an end to those monthly payments is a huge accomplishment.

If you're now sitting on several hundred extra dollars per month and you're wondering what you should do with that cash, look no further. You should invest it -- right away! Here's why.

Assign that cash a new job before you can miss it

You may have heard that it's a good idea to take your annual raise at work and increase your 401(k) contributions by that amount. The idea is that you'll never miss the extra money in your paycheck if you never saw it to begin with. This follows the same line of thinking. If you're used to throwing $500 toward your car payment every month, but you immediately give that $500 a new job the month after your car is paid off, then you never really had the extra $500 to otherwise use or miss.

As soon as your last car payment goes through, I recommend immediately logging into your brokerage account (or opening a brokerage account if you're a beginning investor), and setting up automatic monthly contributions equal to the amount of your car payment. You'll be amazed what a modest monthly contribution could mean for the growth of your investments over time.

An illustration

Let's look at an illustration to get a better idea of what you might stand to gain by investing your previous car payments funds. For our example, we'll imagine your car payment was $500 per month, slightly below the current average on a used vehicle. We'll show what that amount invested each month would grow to over time periods of one, two, five, and 10 years. For our calculations, we'll assume an average 10% rate of return equal to about what we can expect from the S&P 500, historically speaking. (Note: While you should certainly continue investing beyond 10 years if possible, we're imagining that's about the point in time at which you may want or need to buy a new vehicle and once again have a car payment).

After 10 years, you've invested $60,000 of your own dollars, but you've earned over $40,000 in interest, bringing you to a total balance of over $100,000! And all with a sacrifice that you shouldn't even have noticed along the way. To take this example just a step further, let's assume at the end of 10 years you buy a new car and stop contributing to your brokerage account entirely. Without investing another dollar of your own money, at the end of another 20 years, your account balance will have grown from $100,728.80 to $677,653!

Shoulda, coulda, woulda

I'll be honest -- seeing those numbers leaves me with some feelings of regret. I paid my car off several years ago and unfortunately did not have the wisdom at the time to make this move. And now, the money that used to go toward my car payment has slowly seeped into other parts of my budget in the form of higher grocery tabs, more travel and entertainment spending, and more meals out with friends. If I were to try to enact this plan now, I'd have to really make an effort to cut back and carve out the money to do so.

So don't make my mistake, and invest right away -- before you even get a chance to notice the extra cash sitting around in your checking account each month.

A disclaimer

Before making this move, it's a good idea to make sure you have a fully stocked emergency fund. Experts recommend having three to six months' worth of living expenses in a savings account to account for life's unknowns. If you don't yet have an emergency fund, perhaps you could make your car payment funds act twofold. Try sending half of the amount to a high-yield savings account each month until your emergency fund is complete, while the other half gets invested.

The less you invest each month, the less your money will grow, but compound growth is an amazing thing, and it will work wonders whether you invest $250 per month, or $500. Start investing as much of your past car payment as you can, as soon as possible, and watch your brokerage account balance grow. The version of yourself that exists in 30 years will be forever grateful.