Buying vs. Leasing a New Vehicle – Part Two – The Risks and Benefits of Leasing
The following is Part Two of a two part article. Read Part One here.
In Part One we discussed the variables involved with financing the purchase of a vehicle. In Part Two, I want to discuss leasing, the other main option besides buying outright with cash in hand.
A lease agreement is an arrangement where you are given ‘use’ of a vehicle (usually new) for a set number of months (known as the “term”) in exchange for a set monthly payment. At the end of the term you return the vehicle to the leasing company, no questions asked, and give them the keys. As long as you have stayed within a pre-set maximum number of kilometres and you have not caused excessive wear-and-tear, that’s it.
Leasing is like renting for a very long time
Leasing companies have done their homework; they know roughly how much the value of the car will decrease from when you drove it off the lot and when you bring it back at the end of the term (this is known as depreciation). Once they know the depreciation, they add on some interest, some fees, and applicable taxes and divide it all up by the number of months in the term of the lease – that’s your monthly payment. For all intents and purposes, you are renting a car for a very long time.
The first major advantage to leasing is that it generally results in a lower monthly payment because you are not paying for the full value of the vehicle, only what you ‘using’ it for. Second, you will generally drive a new vehicle. Lastly, for some business owners, there are tax advantages.
Seems simple, right? Almost, but not quite - leasing is not for everyone. There are disadvantages as well.
You will never own the vehicle and will always have a payment
This is the most cited disadvantage to leasing. However, vehicles are prone to depreciate in value quickly (especially new ones) so trying to build equity by owning a new vehicle is often a futile effort. If you are in the cycle of (i) financing a car, (ii) paying on the loan, (iii) car is barely worth what’s owed on it when you want to trade, and then back to (i) financing a new vehicle – you will most likely always have a car payment anyway. If you perpetually lease vehicles, you will also always have a monthly car payment; but at least you will have a newer car and be without the risk of excessively decreased trade-in value.
High Mileage / Excessive Wear-and-Tear
Remember, leasing is like renting so there are usage limits. This isn’t actually your vehicle. If you exceed the allotted mileage in your lease agreement, the fees can be very high when you return the vehicle at the end of the term. The same applies if you have scratches, dings or dents. If you commute or drive a lot for your work or don’t maintain vehicles well, leasing is likely not a good option for you. However, there are sometimes options to work increased mileage into the lease agreement up front to limit the penalties at the end.
A contract is a contract
When you enter into a lease agreement, it is for the duration of the term. If you can’t afford it later, or your needs change, it may be difficult or expensive to get out of the deal. Or, if you want to trade-in early, you may be limited to the same make of vehicle. One option is to have someone else assume your lease and there are websites dedicated to putting you in contact with someone that will be willing to do just that. But, of course, there will be fees associated with that transfer as well.
Higher insurance cost
Leasing companies will generally insist that more expensive insurance ‘gap insurance’ be placed on the vehicle. Gap insurance is the difference between the actual cash value of a vehicle and the balance still owed on the lease and it can be costly.
Deciding between financing and leasing depends a great deal on what your needs are for a vehicle, how much will you drive, and how long you intend to keep it. Your job is to accurately forecast these factors and weigh all of your options.
Everything has a price including freedom, flexibility, and predictability. Because a vehicle is one of the most expensive purchases that most of us make, closer scrutiny is recommended compared to the purchase of other consumer products. A vehicle will impact your finances more than most purchases and for many years so seeking guidance can be wise.