Lease or Buy a Car?
That’s not an easy question to answer, as it really depends on your situation. If for example you are self-employed and can write off lease payment as a business expense, it may be a good option for you, especially if you're trying to get into a luxury model (to impress clients) for less upfront cash. Those who like to drive a new car every few years also prefer the lease option. There are of course certain differences and advantages/disadvantages when it comes to leasing or buying a car.
Differences in Buying and Leasing
In short, when you lease a car you're paying for depreciation in the car's value. The dealer determines how much the car is going to be worth at the end of the lease, and you finance the difference between the current value and what it will be worth at the end of the lease term. For example, if the car you're buying is worth $40,000 and in 3 years (or 36 months) when your lease ends is going to be worth $25,000, you'll have to finance $15K for 3 years. If you have a good credit score, you may be able to lease a car with zero down payment (drive-off costs) though don’t count on it.
When you lease, you pay for only a portion of a vehicle's cost, which is the part that you "use up" during the time you're driving it (typical lease terms are 24, 36, or 48 months). You pay the first month’s lease up front, but pay sales tax only on your monthly payments, and you pay a financial rate, called money factor, that is similar to the interest on a loan. You may also be required to pay fees and possibly a security deposit that you don't pay when you buy. At lease-end, you may either return the vehicle, or can purchase it for its depreciated resale value.
Lease payments are made up of two parts: a depreciation charge and a finance charge. The depreciation part compensates the dealer for the portion of the vehicle's value that is lost during your lease. The finance part is interest on the money the lease company has tied up in the car while you're driving it. In effect, you are borrowing the money that the lease company used to buy the car from the dealer.
On the other hand, when you buy a car, you pay for the entire cost of a vehicle up front, for its entire life. You typically make a down payment, pay sales taxes in cash or roll them into your loan, and pay an interest rate determined by your loan company, based on your
credit history. Later, after it’s paid off, if you sell or trade the vehicle you will get its full depreciated resale value and won’t owe anyone.
When to Lease - situations where leasing would be attractive, though not necessarily from a financial perspective:
- When you like to drive a new car every 2-4 years. When your lease ends, you just return your car and lease a new one. There is no hassle of selling a car.
- When you don't have enough money to purchase a new car, but still want to drive one. Lease payments can be much lower compared to what you'd have to pay if you bought the same car. Because, if you buy you have to put a significant amount down (10-20%) or expect higher monthly payments. Of course you’ll own the car in the end, but the whole time you’ve been financing the entire car’s value, and not just 24 or 26 months-worth.
- If you own a business, you might be able to deduct all or part of the leased car cost, and you can have the benefit of driving a prestigious car to impress clients or partners.
Advantages of Leasing
- Low deposit - A leased car's down payment is smaller then if you were to buy the car new. You will initially save more money by putting less down.
- Low monthly payments - The payments are also lower than for buying a car since you only "bought" a few years worth of depreciation
- Warranty and repair - Regular service and new car warranties apply to leases, so you won’t have to worry about paying for oil changes or foot the bill if something major needs replacement.
- Trade-in option - You may start a new lease with a new car as soon as your previous lease terms expire. Of course, you may return the car at the end of the lease and "walk away." However, you're still going to be responsible for certain end-of-lease charges, such as excess mileage, wear and tear, and disposition. You also have an option to purchase the car at the end of the lease.
- Short lease terms - Many dealerships offer a two year lease contract. Some may offer longer or shorter lease periods depending on the dealer's terms.
- Lease security - If you default on your payments then the car you leased will be repossessed.
Disadvantages of Leasing
- No capital - You do not own the car. A dealership finance company owns the car.
- Lease termination fee - Under most lease terms, you will need to pay hefty fees for an early termination.
- Insurance Costs - Leasing a car can bring on higher insurance rates since you may require more coverage than you're used to paying. Contact your insurance agent to get an idea of what your insurance costs will be before signing a lease.
- Wear and Tear - Like mileage, there are limitations on the wear of a vehicle under a lease. Exceeding these wear limitations may result in more fees. You are held accountable for all vehicle wear and tear, and any destruction, interior or exterior.
- Odometer Limits - Most leases have a limit on the number of miles you may drive, usually anywhere between 12,000 and 15,000 per year. Excessive mileage equals more money, usually about 10 to 15 cents per mile over the agreed upon yearly figure. This can add up fast, especially if you drive a lot.
- Modification Rules - If you’re an enthusiast who likes to modify cars or trucks, leasing may put an unacceptable burden on you – you won’t be able to install that awesome Whipple supercharger on your new Silverado for some serious power, and those coilovers on your S2000 for even better handling will be a no-go – as most lease terms are strict and won’t tolerate even simple modification, let alone illegal engine mods.