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Leasing: Is It Right For You?

Leasing: Is It Right For You?

By Jeff Youngs, February 24, 2012
The first question many people ask when leasing a vehicle is, "How much is my monthly payment going to be?" But there's more to it than that.

What really needs to be assessed is the total amount being charged over the lease term including fees, taxes, security deposits, and any lease-end payments. Often, there are fees associated with the number of miles driven and the condition of the vehicle at lease end.

Leasing can be done through a variety of companies, including captive lessors (those associated with vehicle manufacturers), banks, credit unions, and independent leasing companies. Finance companies that are associated with vehicle manufacturers often subsidize leases in order to make their models more financially attractive.

Understanding the lease payment

All monthly lease payments are comprised of two basic elements, a depreciation fee and a rental fee. When you lease a vehicle, you are paying for both the cost to operate the vehicle as well as an amount that represents the vehicle's depreciation while it is in your possession. To determine your depreciation component, the lessor (the company leasing the vehicle to you) looks at the cost of the vehicle, including fees and any negative equity you have, as well as destination and other charges. This amount is called the adjusted capitalization cost or adjusted cap cost.

The adjusted cap cost is subtracted from the amount that the vehicle is estimated to be worth at the end of the lease period (this amount is called the residual value). This amount is then divided by the number of payments you will make during your lease period. The depreciation component is usually the largest portion of your monthly lease payment.

To arrive at the rental portion of your lease payment, simply add the adjusted cap cost and the residual value, which equals the lease balance multiplier. Then multiply this number by the money factor, which is similar to the interest rate on a loan. This figure represents the money component of the lease-the amount required to basically rent the vehicle for an agreed upon length of time.

While all lease payments include these two components, taxes can also be rolled into the monthly payment if they are not paid up front. Be sure to find out what the taxes are for the vehicle you are leasing, including the amount of luxury tax, if applicable.

When you are negotiating the deal, be sure to think about it in terms of the total financial cost, not only your monthly payment cost. Many consumers forget to include items such as security deposits, down payments, dealer prep fees, or lease-end charges, all of which can substantially increase the total cost of the lease.

Leasing Tips

Here are some tips to consider before leasing a new vehicle:

Research your options thoroughly. Remember, it is not a requirement to use a captive lessor (those associated with a vehicle manufacturer) to lease any vehicle, so check with your bank, credit union or an independent company to ensure you are getting the ideal arrangement for your particular circumstances.

Choose a vehicle with a high residual value. The residual value is the amount that the vehicle is estimated to be worth at the end of the lease, assuming it does not have excessive wear and tear. By choosing a vehicle with a high residual value, your payments are likely to be lower than they would be if the residual value was lower.

Stay within the annual mileage limits. All lease contracts have limits on the amount of miles the vehicle can be driven during the lease term. Typically, there is a per-mile charge for vehicles that exceed the mileage agreed upon in the lease contract. If you think you will drive over the mileage limit of your contract, ask about purchasing extra miles up front at a discounted rate, or better yet, negotiate a lease that includes higher mileage limits.

Don't terminate the lease early. In addition to penalties charged for early termination, lessees who turn their vehicles in early may find they owe more money for this privilege. This is because the depreciation rate has been calculated for the term of the lease, so the lessor recalculates the depreciation, which results in an additional charge to you.

Read the fine print. There can be many hidden costs written into a lease, such as dealer fees for additional services and lease-end payments. Read your lease contract carefully and make sure that the numbers (adjusted cap cost, residual value, and monthly payment) are all included and are the terms that you agreed to.

You're a good candidate for leasing if.
You enjoy driving a brand new vehicle every few years
You don't have much money for a down payment
You drive less than 15,000 miles annually
You'd like to drive a more expensive car than you could otherwise afford to buy under traditional financing terms
You take proper care of your car, servicing and washing it regularly
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