AutoSeek - Leasing vs Buying

Buying and leasing are different. When you buy, you pay for the entire cost of a vehicle, regardless of how many miles you drive it. 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. You make your first payment a month after you sign your contract.

When you lease, you pay for only a portion of the vehicle's cost, which is the part that you "use up" during the time you're driving it. You have the option of not making a down payment, you pay sales tax only on your monthly payments (in most states), and pay a money factor that is similar to the interest rate on a loan. With leases, you may also pay extra fees and possibly a security deposit that you don't pay when you buy. You make your first payment at the time you sign your contract.

As an example, if you lease a car that costs $20,000, but is worth $13,000 after 24 months, you pay for the $7000 difference (this is called depreciation), plus finance charges, plus fees. When you buy, you pay the entire $20,000, plus finance charges, plus fees. This is fundamentally why leasing offers significantly lower monthly payments than buying.

Lease payments are made up of two parts: a depreciation charge and a finance charge. The depreciation part of each monthly payment compensates the leasing company 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 lease company's money that they used to buy the car from the dealer.

Loan payments also have two parts: a principal charge and a finance charge, similar to lease payments. The principal pays off the vehicle purchase price, while the finance charge is interest.

However, since all vehicles depreciate in value by the same amount regardless of whether they are leased or purchased, part of the principal charge of each loan payment can be considered as a depreciation charge, just like with leasing — it's money you never get back, even if you sell the vehicle in the future.

The remainder of each loan principal payment goes toward equity. It's what remains of your car's original value at the end of the loan after depreciation has taken its toll. Equity is resale value. It's what you get back if you sell the vehicle. The longer you own and drive a vehicle, the less equity you have.

So, buying a car with a loan is essentially like putting money into a declining-value savings account — you never get out as much as you put in. A portion of every payment you make is lost to depreciation. What you have "to show" for your investment when your loan is paid off is only the part that is left over after depreciation. A terrible investment by any measure.

With leasing, you at least have the option of putting your monthly payment savings into more productive investments, such as mutual funds or stocks that have the possibility of increasing in value. In fact, many experts encourage this practice as one of the benefits of leasing, though most people will typically find other uses for the money they save by leasing — such as paying the rent or buying groceries.

One other thing — Most car leases have built-in gap coverage, while car purchase loans almost always do not. Gap coverage, or gap insurance, pays the difference between what you owe on your loan or lease, and what your vehicle is actually worth if your vehicle is stolen or destroyed.

Why is this important? Because it's very common with car leases and loans, in these days of 0% interest, no down payment, and delayed payments, to owe more than your car is worth for most of the life of the financing. This can mean you'll still owe hundreds or thousands of dollars to the finance company even after your insurance has paid off — for a car you no longer have. This turns out to be a shocking surprise for most people caught in this unfortunate situation.

So, most leases have it, most purchase loans do not. You're better protected with a lease, unless you purchase the gap insurance separately at extra cost for the loan — if you can find somewhere to buy it.

So, is it better to lease, or to buy? Let's simplify the answers and summarize them here:

1. The short-term monthly cost of leasing is always significantly less than the cost of buying.
For the same car, same price, same term, and same down payment, monthly lease expenses will always be 30%-60% lower than loan payments. This is still true even when compared to 0% loans.

2. The medium-term cost of leasing is about the same as the cost of buying, assuming the buyer sells the vehicle.
The overall cost of leasing compared to buying, over the same lease/loan term, is approximately the same, more or less, assuming the buyer sells the vehicle at the end of the loan. Comparisons sometimes show buying to cost a little less than leasing due to fewer fees and the assumption that a purchased vehicle will return full market value if it is sold or traded at the end of the loan (often a bad assumption). However, if the benefits of wisely investing monthly lease savings are considered, the net cost of leasing can easily be less than buying.

3. The long-term cost of leasing is always more than the cost of buying, assuming the buyer keeps the vehicle.
If a buyer keeps his car after the loan has been paid off and drives it for many more years, the cost is spread over a longer term. It doesn't take rocket science to figure out that the cost of buying one car and driving it for ten years is less expensive than leasing or buying five different cars over the same period. If long-term financial benefits were the most important objective in acquiring a new car, it would always be best to buy the car and drive it for as long as it survives — or until the cost of maintenance and repairs begins to exceed the cost of replacing it. However, many automotive consumers have other objectives that reduce the importance of long-term cost savings.