Leasing generally offers the advantage of little or no down payment and low monthly payments. Leasing can allow you to drive a better-equipped vehicle than you might have been able to purchase using cash or credit. Leasing usually results in lower monthly payments than purchasing over the same term. Generally, leasing is a win-win for most drivers. The exceptions are those that want to keep their cars for a while or those that put a lot of miles on their vehicle each year.
A lease is actually a payment for the use of a vehicle over a specified period of time, rather than a purchase. Your payments cover the vehicle's depreciation over the term of the lease. Because this amount is usually much less than the full purchase price, the payments can be less. You (referred to as the "Lessee") agree to maintain the car during the lease and only put the number of miles specified in the lease agreement. At the end of the lease, you return the vehicle or may take advantage of the option to purchase it.
Is leasing right for me?
Are you a driver that takes care of your car and puts between 12,000 and 15,000 miles on your car a year? If so, you might find that leasing makes good sense for you by offering lower payments and an opportunity to drive a new car every two to three years. On the other hand, if you put a high number of miles on your car (in excess of 20,000 miles per year) or tend to drive your car for 5 years or more before trading it in, leasing may not be the right option for your needs. Your dealer is knowledgeable about both plans, and can provide you with specific details about the car you are interested in.
Balloon Note: This is very similar to a lease. The difference is the vehicle is registered and insured in the customer's name. This allows customers, in states where leasing is not popular, to enjoy the same low monthly payments as with a lease.
Net Capitalized Cost: The amount used to determine the lease payments. This includes destination charge, acquisition fee, and security deposit (refunded at the end of the lease) minus any discounts from the vehicle's residual value at the end of the lease, and any capitalized cost reduction (down payment).
Capitalized Cost Reduction Payment: A payment made to reduce the net capitalized cost and therefore the monthly payment amount.
Conventional Financing: A financial note or installment credit that pays for the principal (the value of the car) and the interest. At the end of the note period or installment term, the full amount has been paid. Longer terms (66 and 72 months) are used to lower the payment, but typically customers trade their vehicles before the note comes due or the contract is paid in full. The payoff amount for longer-term financing will most likely exceed the value of the vehicle.
Depreciation/Residual Value: The amount the vehicle's value will decline over the length of the term. For example, a vehicle may be worth 45% of its original MSRP (Manufacturer Suggested Retail Price) at the end of 36 months. Therefore, its deprecation would be 55% and its residual value would be the 45%.
Money Factor: Equivalent to the interest rate on a loan. It is the interest rate divided by 24 (regardless of term).
Term: The length of the lease. Typically, most leases are written for 24, 36 and 48 month terms.
Advantages of leasing
Lower Payments: With a lease, your monthly payments will almost always be lower than with conventional financing because you are paying for only a portion of the car's full value over the lease period. This gives you the option of driving a nicer car for the same monthly cost.
Manufacturer Incentives: In tough times or in a new model year, manufacturers may offer very attractive terms such as below market interest rates and high residuals that have the effect of lowering the monthly payment.
Lower Up-front Costs: Unless you decide to make a large cap reduction payment, initial costs for most leases will be limited to a refundable security deposit (typically one monthly payment rounded up to the nearest $25), sales tax depending on your state, title and registration fees, environmental fees (i.e., battery and tire disposal fees), and finally, your first monthly payment. As a result, leasing ties up less of your capital, freeing cash for more lucrative investments.
Taxes: With the phasing out of deductions for interest on car loans, leasing may now compare more favorably against conventional financing from a tax standpoint. Although most individuals will not save taxes with a lease, some businesses may enjoy certain advantages with leasing. Consult your tax advisor for more information.
Hassle-free Disposition: At the end of the lease you can simply give the car back to the dealer, satisfy your lease-end obligations, and walk away. No need to worry about selling the car or haggling over its trade-in value. If you decide to buy the car at the end of the lease, you'll have an idea how much the cost will be (no more than the residual value).
No major repairs: New vehicles are covered by a factory warranty for the duration of your lease contract. However, regular maintenance is your financial responsibility. Some leases allow you to add this to your monthly payment so you will not have to pay for it later and in larger amounts. It is also helpful to have your maintenance done at a dealership. They will keep a computer record of your visits, which is excellent proof of your maintenance for the recovery of your security deposit.
Disadvantages of leasing
Early termination: Depending upon the contract, there might be penalties for terminating before the end of the lease. This is due to the term being the key factor in calculating the lease payments.
Mileage limitation: Leasing contracts have annual mileage limits. The mileage is one of the key factors used to determine the residual value. Therefore, the higher the mileage, the lower the residual value. Typically, there is a 2% point difference between 12,000 miles and 15,000 miles. If you plan to drive more than the mileage specified in the lease you can pay for the excess mileage up front, or at the lease termination. Typically, paying for up-front mileage is less expensive.
Higher insurance coverage requirements: Leases generally require higher insurance coverage limits for liability insurance and you must purchase comprehensive coverage.
Calculating the monthly lease payment
Lease payments are based on the capitalized cost, which is the MSRP, including destination charge, acquisition fee, and security deposit (refunded at the end of the lease) minus any discounts from the vehicle’s residual value at the end of the lease, and any capitalized cost reduction (down payment). The monthly payment is determined by dividing the depreciation (net capitalized cost, less the residual) by the term of the lease, and adding the cost of the money (the money factor times the sum of the net capitalized cost and the residual). States vary on their charges for documentation fees, license plates and taxes and amounts must be added to the payment. Additionally, if you owe more on your trade than it is worth, this amount can be added to the net capitalized cost and paid down through the monthly lease payments.
The residual value is based on the vehicle's resale value at the end of the lease. This is influenced by its popularity as a used car. Residual values are set at the time of the lease (which make the lease a closed end lease as opposed to an open end lease where residual values are not set beforehand - open end leases are very rare today
Do's and Dont's of leasing
- Your Homework - Learn as much as you can about leasing. Be sure to understand how a lease works and the meaning of the terms.
- Read the Lease Contract -especially the fine print - BEFORE you sign it. Be sure to understand your obligations and liabilities for early termination.
- Make Sure All the Figures Add Up - Calculate the monthly payment yourself. If it doesn't match with the payment on the contract, ask questions until you understand why.
- Know the MSRP for the vehicle you are leasing.
- Be Prepared to Go the Distance on the lease - Early termination of any lease is almost always costly. Make sure that your personal situation will allow you to fulfill all of the obligations of the contract.
- Maintain and Insure Your Leased Vehicle - The insurance is required, and taking care of the vehicle will save you dollars at termination.
- Lease Without GAP Insurance - For just a few dollars a month, you protect yourself from a big loss in the event of forced termination such as a thief or accident where the vehicle is totaled. All leases through Motor Finance come with GAP insurance automatically.
- Lease Without Full Disclosure of the money factor, residual value, and the capitalized cost.
- Accept an Open-End Lease - Remember, in an open-end lease the payment is based on an estimated residual value. If the actual value is less at the end of the lease, you must pay the difference