by the Editors of Carpoint
Leasing offers an attractive and affordable means of driving a new car every few years. However, leasing involves a number of contractual obligations so it may not be for everyone.
Leasing—rather than financing or paying cash—has become a popular method of acquiring a new car or truck.
It's easy to see why. Some advertisements tempt with promises of "zero down" and low monthly payments on two- or three-year leases. Often you can lease a more luxurious car for the same monthly payment you would have if you were financing a lower-priced car. This helps explain why leasing grew in popularity during the 1990s. And even now leasing is projected to continue to account for about one-third of total vehicle sales in the years to come. What is leasing really all about?
Leasing is paying for the use of a car, rather than actually paying for the car itself. The bottom line is that your lease payments cover the cost of the vehicle's depreciation over the length of the term of the lease, instead of the vehicle's actual purchase price. You (the "lessee") are expected to maintain the car during the lease, but when the lease is over you can either return the car or exercise the option to purchase it. Conceptually, that's how it works. But in practice, there are a number of factors to consider before you decide whether or not leasing is appropriate for you.
Leasing isn't for everyone, but for those willing to accept certain limits, leasing offers an attractive and affordable means of driving a new car every few years. If you're interested in leasing, you should make sure you're comfortable with some of the basic aspects. Ask yourself the following questions:
If you answered "yes" to two or more of these questions, then leasing may be right for you.
There are many differences between leasing and buying. But the primary difference is when you buy you're paying to own the car; when you lease you're paying to use the car. Below are some specific differences between buying and leasing a new vehicle.
It may sound like a dream, but leasing makes it possible. Since the amount a vehicle depreciates over a two- or three-year lease is less than the cost to finance that vehicle over the same time period, monthly lease payments can be less—and considerably so in many cases. This allows consumers to use the money they save for other things, or to lease a more expensive vehicle than they could normally afford to finance for the same monthly payment. To arrive at this monthly lease payment, a leasing institution (the "lessor") combines the vehicle's estimated depreciation over the lease period with the interest being paid by the lessor to finance the car, plus assorted dealer fees.
Most leases can be initiated without a down payment (known as a "capitalized cost reduction," in leasing terms). Again, because lease payments are based on a smaller amount of money than if the vehicle is financed, less money is needed up front to initiate a lease. A down payment may be utilized in some instances to lower monthly payments to an especially attractive figure; however, this counters one of the main benefits of leasing, which is getting a new car with little money down.
The short lease periods available are very attractive to consumers who like the idea of driving a new car every two or three years. It also helps keep maintenance costs down by avoiding the high cost of maintenance and repairs that an older vehicle with high mileage often requires. Since most manufacturer warranties cover vehicles for at least the first two or three years—with the exception of required routine servicing—most serious maintenance costs get absorbed by the manufacturer anyway. Beware: those who may be thinking of terminating a lease early should think twice since there are severe penalties for early lease termination.
If you are considering an alternative method of lease termination, visit one of our featured finance providers, LeaseTrading.com.
At the end of the lease, you have the option of returning the vehicle to the lessor, extending the lease or purchasing the vehicle. If you choose to return it, some basic requirements must be met: 1) The vehicle must be in good shape (as determined by the lessor) and free of excessive wear and tear. Any evidence of rough or abusive treatment will result in repair costs being charged back to you. 2) The vehicle must be returned as delivered. Any performance modifications or aftermarket parts and accessories that had been installed by the lessee during the lease must be removed and the vehicle returned to the same condition that it was in when it was first leased. 3) Total mileage must not exceed the annual mileage cap set by the lease. If the vehicle has more miles than the leasing agreement stipulates (the normal mileage cap is ususally 15,000 miles per year), you may be charged anywhere from 10 to 25 cents per mile for miles over the mileage cap. It pays to stay within the mileage limits.
If your lease includes a purchase option, you may choose to purchase the vehicle at the end of the lease. In evaluating this option, another set of factors must be considered, foremost of which is the vehicle's lease-end value, or residual value. With the more common closed-end lease, the residual value is actually calculated at the lease's inception. This ensures that you pay a predetermined amount regardless of the vehicle's actual market value. If the market value is higher than the residual value, then you're getting a good deal. If the residual value is less than the market value, the lessor—not you—absorbs the loss. Regardless of market value, you pay the same.
Leasing may sound straightforward, but it is important to pay attention to the details. Here's some advice that will help make leasing your next vehicle a little less mysterious and intimidating:
Acquisition Fee - A fee charged by a lessor to cover the administrative costs of preparing, approving and administrating the lease. May be paid up front or included in the gross capitalized cost.
Adjusted Capitalized Cost - The amount capitalized at the beginning of the lease, after adding any fees or other charges to be included, and subtracting any capitalized cost reductions, such as rebates, trade-in allowances and cash reductions.
Capitalized Cost - Often used to refer to the negotiated selling price of a vehicle to be leased. May be used to refer to the gross capitalized cost or the adjusted capitalized cost.
Capitalized-cost Reduction - The total of any cash payment, trade-in allowance or rebate used to reduce the gross capitalized cost. The capitalized cost reduction is subtracted from the gross capitalized cost to get the adjusted capitalized cost.
Captive Finance Company - A leasing or finance company that is owned by or otherwise associated with a particular vehicle manufacturer or distributor.
Closed-end Lease - A lease that allows the lessee to return the vehicle at the end of the lease term with no further financial obligation, assuming that the lessee has complied with all of the terms of the lease. The lessee may be responsible for a disposition fee, if it is part of the lease agreement. There may be additional charges according to the terms of the lease for any excess mileage or excess wear. The lessee is not responsible for any difference between the residual value, as stated in the lease, and the actual value of the vehicle at the end of the lease.
Depreciation - The amount the vehicle declines in value over the term of the lease. The depreciation may be calculated by subtracting the residual value from the adjusted capitalized cost. Using this method, the depreciation amount will also include any amounts that were added by agreement to the price of the vehicle to arrive at the gross capitalized cost.
Disposition Fee - The fee charged by the lessor if the lessee does not purchase the vehicle at lease-end, for costs associated with preparing the vehicle for resale and selling the vehicle. The disposition fee must be disclosed in the lease agreement.
Early Termination - Ending a lease before the scheduled termination date. The lessee will typically be required to pay an early termination charge as described in the lease agreement.
Early Termination Charge - The fee charged to a lessee in the event of an early termination of a lease. Penalties vary from lease to lease and the method of calculation is determined at lease inception and explained in the lease agreement.
Early Termination Payoff - The total amount the lessee owes if the lease is terminated early, before subtracting any credit for the value of the vehicle. The payoff is calculated as described in the lease agreement.
Excess Mileage Charge - The fee charged for each mile in excess of the predetermined mileage limit, as set forth in the lease agreement. The excess mileage charge varies depending on the type of vehicle, and is typically between $0.10 and $0.25 per mile.
Excessive Wear and Tear Charge - A charge collected by the lessor at the end of the lease for damage to the vehicle that is beyond what is allowed by the terms of the lease. In a consumer lease, excess wear and tear or normal wear and tear will be specifically defined.
Gap Coverage - A type of insurance coverage that covers the difference between the payoff of the lease and the amount covered by other insurance coverage, when a vehicle is damaged or stolen during the term of the lease. Most gap coverage requires that the lessee not be in default under the terms of the lease.
Gross Capitalized Cost - The negotiated price of the vehicle, plus any other amounts you agree to include in the capitalized cost, such as fees, insurance premiums, service contract premiums or prior vehicle loan or lease payoff.
Lease Term - The period of time covered by the lease agreement.
Lessee - The party entitled to possession and use of the vehicle according to the terms of the lease.
Lessor - The legal owner of the property that is leased.
Mileage Allowance or Mileage Limit - The total amount of mileage the vehicle may be driven over the term of the lease, without incurring liability for additional mileage charges.
Money Factor - A number often used by lessors to calculate the average monthly rent charge portion of the lease payment.
MSRP - The manufacturer's suggested retail price.
Open-end Lease - A type of lease in which the lessee is responsible for the difference between the residual value and the realized value at the end of the lease. The lessee may be entitled to a refund if the realized value is greater than the residual balance.
Purchase Option - The lessee's right to purchase the leased vehicle, either at the end of the lease or during the lease term, as specified in the lease agreement. The lease agreement may or may not include a purchase option.
Purchase Option Fee - A fee in addition to the purchase price that is required to exercise a purchase option, according to the terms of the lease.
Realized Value - A value assigned to the vehicle at lease termination. Check your lease agreement for a definition that may range from the value actually received by the lessor, the highest offer received by the lessor, the vehicle's "fair market value," the wholesale value or the retail value.
Rent or Rent Charge - The portion of the monthly lease payment that is in addition to the depreciation and amortized amounts.
Residual Value - The lease-end value of the vehicle, established at the beginning of the lease. This value is used in determining the monthly lease payment. The residual value is also used to determine the depreciation and other amortized amounts that go into determining the monthly lease payment.
Security Deposit - A refundable deposit, usually equal to one monthly payment, collected by the lessor at the beginning of the lease to offset any amounts due under the term of the lease.
Subvented Lease - A lease that is subsidized by the manufacturer or other lessor. Many subvented leases offer lower monthly payments by utilizing a higher residual value than other lessors, or by offering a lower rent portion of the monthly payment.