What is Car Depreciation and How to Calculate It?
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What is Car Depreciation and How to Calculate It?

By Michael O'Connor | September 25, 2021

What is Car Depreciation?

Car depreciation is the rate at which a vehicle loses its value over time. Unfortunately, cars have one of the highest 5-year depreciation rates of any purchase. Except for some classic cars, you will not see a return on investment for a new vehicle no matter how well you take care of it. However, there are some things you can do to keep the depreciation rate down.

A lot of different things determine the difference between the resale value and the purchase price. Factors like mileage, the market value of used cars in your area, and the condition of a vehicle will determine how much value it loses over time. In some cases, a new car's value can depreciate as much as 50 percent within the first three years.

No matter what kind of car you have, you will deal with depreciation in some way. Vehicles lose their value at higher rates than other large purchases, and this should be considered when buying a used or brand new car. As soon as it's driven off the lot, that vehicle has started to depreciate.

By understanding how and why vehicles depreciate, you can make the right decisions with a new car purchase. For example, suppose you want to figure out the resale value of a car you already own. In that case, you can also calculate its depreciation rate based on factors including make and model, mileage, and location.

When Does a Vehicle Depreciate Most?

While all vehicles depreciate throughout the life of the car, there are certain milestones when depreciation is more pronounced. These milestones are when a car loses its value no matter how well it is taken care of or how few miles are on it. By knowing what they are, you can plan accordingly for car buying and selling.

After a Sale:
As soon as a car is sold or titled, it will start to lose its value. In most cases, a vehicle will begin to depreciate as soon as it rolls off the lot of a dealership. More owners mean more instances for a car to experience wear and tear, which translates to a lower overall value.

After the First Year:
Most new vehicles will lose a large portion of their market value before they are a year old. After a year of ownership, a car will lose about 20 percent of its original value no matter how well it is maintained or how much it has been driven. For some vehicles with a higher depreciation rate, this percentage can be even more substantial.

After Five Years:
Once a car reaches the five-year mark, it will lose around 60% of its value. Up until that point, a typical vehicle depreciates roughly between 15 and 20% every year. After the five-year mark, depreciation continues, but it tends to slow down quite a bit as it gets older. That's when its regular maintenance and mileage will start to factor in the most.

What Causes Depreciation?

There are many reasons that cars lose value over time, and some of them are out of your control. No matter how well-maintained a vehicle is, it will still depreciate after a certain number of years. However, knowing what causes a car to depreciate can help you get the most out of its resale value.

Make and Model:
Some cars from certain automakers will depreciate faster than the typical rate. In addition, having an older version of a vehicle that's just been replaced or redesigned can also negatively affect your vehicle's value. Buyers tend to favor a new model over last year's designs.

One of the most important contributors to depreciation is the number on the odometer. Mileage is a good indicator of how much wear and tear is on a vehicle, affecting its value. It will also determine whether or not a car is still under warranty. Many people use mileage as a factor when deciding whether to purchase a used car.

The other important factor in depreciation is a car's actual condition. The mechanical and cosmetic condition of a vehicle will have a significant effect on its resale value. Cars that have been aesthetically maintained will have a better chance of fetching a higher price when they are sold or traded.

The demand for a particular vehicle will also affect its rate of depreciation. For example, if you live in an area with a high demand for pickup trucks, that vehicle type will depreciate slower than other vehicles. Therefore, understanding the market for used cars in your area will help you decide whether it's a good idea to buy or sell a particular type of car.

How to Minimize Depreciation

Keep Mileage Low:
The best way to minimize depreciation in a car is to keep the mileage low. The number of miles on a vehicle is one of the first things people look at when deciding whether to buy or not. It is a good indicator of the vehicle's condition, and keeping that number in line with the average rate of 12,000 to 15,000 miles will help retain the car's value.

Keep Up With Maintenance:
Keep up with regular preventative maintenance on any vehicle you own to help it retain its value. Regular fluid and oil changes can go a long way towards keeping a car in good shape no matter how many miles are on it.

Avoid Modifications:
Keeping a vehicle as close to the stock condition as you can is a good way to help it retain its resale value. Used car buyers would like them to be as similar to showroom condition as possible. By avoiding modifications, you can keep the value up for longer and attract more potential buyers when the time comes.

Buy Used:
Depreciation slows down after five years and eventually begins to plateau slightly. Since the average car will lose 50% of its value within the first five years, it is best to purchase vehicles around this age. In addition, it will give you the least possible difference between your original purchase price and the market value when you decide to trade it in or sell it.

Why Does Car Depreciation Matter?

When purchasing new or used vehicles, most people consider gas mileage, style, and driveability, among other factors. However, depreciation is just as important and is often overlooked. If you want to avoid losing money in the long run, understanding how a car depreciates and why it matters can help you retain some of its value and help you purchase the best car for you.

Trade-In Value:
The biggest thing that is affected by depreciation is a vehicle's trade-in value. When you bring a used car into a dealership for a trade-in, the amount applied by the finance department to the price of the new vehicle will be heavily affected by the trade-in's depreciation. That will be calculated by the dealership's finance department and will factor into the valuation.

Negative Equity:
If you have financed a car with a high depreciation rate, you could end up owing more on the loan than the car is worth. That's called negative equity and can be a significant financial burden. The terms of your loan and the interest rate from the lender will determine whether or not you end up having negative equity in a car.

Save Money While Leasing:
Leasing a vehicle keeps the true cost of ownership for that car down due to depreciation. When you lease a car, you only pay for the depreciation for the period of the lease. You do not absorb the entire cost of depreciation like you do with a vehicle you own, especially if it is a newer model.

Cars With the Lowest Depreciation Rate

Knowing which cars have the lowest depreciation rate can help you decide which vehicle will hold its value the longest. Some cars that have low rates of depreciation over five years according to an iSeeCars.com study include:

  • Jeep Wrangler Unlimited: 30.9% of value lost
  • Toyota Tacoma: 32.4%
  • Porsche 911: 36%
  • Toyota Tundra: 37%
  • Subaru WRX: 39.8%
  • Dodge Challenger: 40.6%

Cars With the Highest Depreciation Rate

According to the same iSeeCars.com study, the cars that have the highest rate of depreciation over five years include:

  • BMW 7 Series: 72.6% of value lost
  • Nissan Leaf: 70.1%
  • Audi A6: 69%
  • Maserati Ghibli: 69%
  • Mercedes-Benz E-Class: 69%
  • Volvo S60: 67.8%

Of course, these percentages will change depending on the individual circumstances of each vehicle. It will also change as new car models come out and older models are replaced.

Calculating Vehicle Depreciation

There is a simple formula to calculate the depreciation of your car. First, find the difference between the new car value and the approximate resale value listed by Edmunds.com or Kelley Blue Book's KBB.com.

For example, if the pricing of a car is $20,000 new and has a resale value of $11,000, that is a $9,000 difference. Then divide that difference by the original sticker price and multiply that number by ten to get the percentage.

CarEdge.com has a car depreciation calculator. It will also allow you to look at how a vehicle will depreciate in a certain number of years. With this calculator, you can decide when it might be a good time to sell a car in the future.

Final Thoughts:

All vehicles depreciate over time and will eventually lose their value. However, by understanding how depreciation works, you can set yourself up to absorb the least amount of depreciation with a car purchase. Your specific vehicle's value will depend on when you bought it and how it was cared for. Warding off depreciation is one of the best ways to make a vehicle purchase a sound financial decision and get the most value.