"If it appreciates, buy it. If it depreciates, lease it."
-Paul Getty, oil barron
What is Leasing?
Leasing is a form of car financing where you don’t pay for the entire car. When you lease a new car, you just pay for the depreciation that occurs over the term of the lease, plus fees and interest. There's often an amount due at signing, then the balance of the cost is paid over the duration of the contract in a series of monthly lease payments. Though the concept is simple, leasing a car is a complex transaction with its own vocabulary and a potentially confusing array of numbers.
A few terms that you’ll want to be familiar with are:
Capitalized cost: The capitalized cost (or cap cost) is essentially the price of the vehicle. Any discounts off the capitalized costs, such as special lease deals from automakers, are called “cap cost reductions.”
Residual Value: A vehicle’s residual value is its expected value at the end of the lease period. This value is set by the leasing company, not the dealership, and is non-negotiable.
Money Factor: In the language of leasing, the money factor represents the rate of interest that you will pay. To convert the money factor to a more familiar annual percentage rate, multiply it by 2,400. You can do the math yourself, or rely on an online money factor converter to do the interest rate conversion for you.
The amount you pay for leasing a vehicle is the capitalized cost minus the residual value, plus interest (based on the money factor) and several fees, including lease origination and vehicle registration costs. For example, if you lease a pickup truck with a capitalized cost of $40,000 and a residual value of $25,000 after three years, you’re responsible for paying $15,000 plus interest and fees.
Dealerships will often refer to the amount of your down payment on a new lease plus any other costs you have to pay up front as start-up fees.
Buying and Financing
When you purchase a car, you pay the entire negotiated price of the vehicle using cash, financing, the value of your trade-in, or a combination of all three. If you buy a $30,000 SUV, for example, you have to pay $30,000, plus interest if you financed it. Spending that amount usually involves a down payment, your trade-in, and an auto loan.
When you purchase and finance a car, the lender holds the title until you pay off the financing, then you will own the vehicle free and clear. Purchasing cars, rather than leasing them, is still the most popular way that Americans acquire vehicles.
Financing a vehicle involves getting a car loan from a lender such as a bank, credit union, or finance company. You pay down the amount of the loan (its principal) and the interest in a series of equal monthly loan payments. The length of an auto loan is called its term, and loan terms commonly vary from a few years to seven or eight years.
Benefits of Leasing
Leasing a new car has several distinct advantages over buying a new vehicle. We’ll look at several of them in depth.
Lower Monthly Payments
Because you are paying for the depreciation that occurs during the term of your lease, monthly payments are almost always lower with a lease than they are when you are buying a car. Most people find it easier to budget month-to-month rather than long-term.
By leasing, you may be able to get a nicer car or afford a few extra options for the same monthly payments (or less) as you would have if you were buying.
In order to get the latest safety and connectivity tech, you really need to have the newest car you can find. The latest models are loaded with advanced safety features and advanced driver assistance technology, such as automatic emergency braking, adaptive cruise control, lane keep assist, and semi-autonomous driving systems. Advanced connectivity features, such as 4G LTE data connections and support for Android Auto and Apple CarPlay are now common even in lower-priced vehicles.
Depending on the vehicle you lease, you can find a model with better fuel economy than similar models from just a few years ago.
Warranty Coverage and Maintanence
Unless you are putting a lot of miles on your new ride, it will be covered by the manufacturer's warranty for the entire time that you're driving it, since the term of most leases is just a few years. You don't have to worry about the cost of expensive repairs, as your dealership’s service department should take care of any problems that occur.
Some leases include periodic maintenance for all or part of the lease term. That gives you a low and predictable total cost of ownership, with few unexpected out-of-pocket expenses.
Ease of Trade-In
When your lease is up, you can simply drive the car to the dealership and walk away after paying any final fees, along with any charges for excess mileage or excess wear. Of course, many leasing customers won’t actually walk away – they’ll drive off with a newly leased car. With leasing, you don’t have to worry about the hassle of selling or trading in your old car, or haggling over its trade-in value.
Smaller Down Payment
When you lease, you'll often have a smaller down payment than if you buy. In fact, some leases require nothing due at signing.
Common Lease Myths
Many people are hesitant or even totally opposed to leasing based on common misconceptions.
Like Renting an Apartment
Many people will compare leasing a vehicle to renting an apartment. If you were to buy a house/condo, you'd have a mortgage and every monthly payment would go toward owning the property. The difference in the two concepts is that a house/condo will not depreciate nearly as fast as a vehicle. In most cases, houses/condos will stay pretty similar in value or even increase as the market changes. When you buy a car, that car will never be worth what you paid for it when you drive it off the lot. The average new car depreciates 10% in the first month of ownership and 20% in the first year.
Unless you're taking out your checkbook to stroke a check for the entire transaction, you're probably financing your new vehicle for 6-8 years. Some people will argue that by leasing, you have no ownership of the vehicle. However, you technically don't own the vehicle in the purchasing scenario until you pay off that entire note and have the title in your hand. In that time that it took you to pay off that loan, you could have had 3 new vehicles sitting in your driveway if you had leased. You also would probably go through at least one set of tires and brakes.
I just read an article that said "leases come with strict mileage limits" and it made me laugh a little. True, a lease does come with mileage parameters (usually 10k, 12k, or 15k miles per year); however, the last thing your manufacturer or dealer wants is for you to get a bill. Rather, they want you to keep leasing. So, there are usually ways to help forgive miles or factor them into your next lease to soften the blow to you. Now, I'm not saying that you should put 100,000 miles on your lease in 3 years, but if you go over your mileage slightly, it's not a big deal. Another option is that you can always purchase your leased vehicle at the end. If you purchase the vehicle, the mileage is irrelevant. The lease company either wants their car back or they want a check. Typically, the only time that you'll actually get a bill from a leasing company is if you hand the keys in and walk away. If you keep leasing from them, everyone is happy.
You Can't Customize Your Ride
Can I add a remote starter to my lease? Yes.
Can I change the wheels/tires? Yes.
Can I tint my windows? Yes.
Can I plasti-dip my wheels? Yes.
Now, you can just about do what you want to the vehicle during the lease; however, they will expect the vehicle to be turned in as described when it was sold to you. So, make sure that whatever you change can be reversed.
You Have to Have Excellent Credit
Ok, so this one is only slightly false. In general, you need decent credit to get a lease. But, just like any other type of financing, it depends on the situation. Now, if your credit is less than perfect, you may still be able to get a lease, but the rates would probably be higher.
You Have to Buy GAP Insurance
That same article I was laughing at says that "nearly all leasing companies require you to purchase GAP insurance." That is totally false. I've never come across a leasing company that did not include GAP insurance. I'm sure it exists somewhere, but as a general rule of thumb you can say that most leases include GAP insurance. On that note, all lease and finance companies WILL require you to have full coverage auto insurance.