Can I Save Money with a New Car Lease?

Although leasing is sometimes made to sound very complex, it is just another way to finance a vehicle. A lease can reduce a person’s car payments by hundreds of dollars per month while preventing them from investing too much in a vehicle they do not intend to keep.

These benefits of leasing touch on two much larger issues; the first is the time-value of money and its potential to help you get ahead. The other is the idea you always lose money spent on vehicles. It is just a matter of how much and how quickly.

Because of this, those who trade before their vehicles are paid off cannot afford to ignore leasing.

However, it is important to understand the pros and cons of leasing and buying to determine which option is best for your lifestyle and budget.

What is a lease?

When you lease a vehicle, you only finance a fraction of the vehicle’s value for a specified term. The amount you pay is the predicted depreciation of the vehicle during the lease term, plus interest.

Leasing is much like renting the vehicle; but paying to use a vehicle, as opposed to owning it, can be very advantageous.

For instance, instead of making payments on a Ford sedan you will trade in a few years, you could lease a Mercedes or BMW for the same monthly investment.

Despite this, many people are close-minded about leasing, although their complaints about leasing also apply to buying or trading a vehicle.

What are the advantages?

For people who insist on frequently switching vehicles or maintaining a full warranty, leasing provides an option oftentimes cheaper and safer than buying.

Leasing provides a financial safety net to insulate you from drastic changes in the used car market, such as large increases in the price of gasoline, recalls or loss of consumer confidence in a brand or model. When you buy a vehicle, you are at the mercy of all these factors and can easily end up owing much more on your car than it is worth. When this happens, it can be difficult to trade.

Instead of being trapped with a vehicle, you have several options once a lease is over. You can buy your leased vehicle, sell it for a profit, or return it to the dealer and be completely free from it.

This means leasing will keep you from haggling with dealers about what your trade is worth.

The catch

Because you are essentially renting, the lease company puts certain restrictions on the condition of the vehicle when you return it, with the most common being mileage and condition. Most leases allow you 12,000 to 15,000 miles a year, but you can purchase extra miles to fit your needs.

You can also be penalized for excessive wear and tear. Because of this, you need to be clear what constitutes excessive wear and tear before signing the lease, as well as consider “wear/tear coverage,” which is a warranty to help absorb such charges.

Also, if there is no buy-out option, trading a leased vehicle before the end of the term can be difficult. However, some leases can be transferred to another party.

Common objections and their flaws

Many people refuse to consider a lease because of the possibility of mileage and wear penalties at the end of the lease. However, if you own and trade a vehicle with above average miles or wear, your trade allowance will be reduced, still effectively penalizing you for these items.

The idea of not having a car when the lease term is over can also be troubling. Unfortunately, after owning a vehicle for 36 months, most people still owe more on it than what it is worth, which is worse than nothing. A person in this situation who wants to trade, or whose vehicle is totaled, is likely to need a rebate or money down to attain financing, which usually forces them into undesirable vehicles using big rebates to attract buyers.

Others are concerned with the idea of “not owning the vehicle,” but, technically, until the vehicle is paid off, the bank has ownership, not the individual.

Another complaint is a lease requires a down payment, although this is not always true.

With a lease, there are also limitations on customization or modification, but you can lease dealer-provided add-ons as part of your lease payment. Otherwise, modifications must be removed or returned to factory condition to avoid a penalty, although the same is true when trading in vehicles.

How it works

Although leasing can be somewhat confusing, it is not much more complicated than buying, provided you understand the jargon and terminology.

Example: Here is a lease special for a 2007 Toyota Camry LE available when this article was written, with much of the fine print removed, leaving only the important figures:

MSRP: $21,794
Capitalized cost: $18,270
Lease-end purchase option: $12,375
Total payments: $7,164
Term: 36 months
Payment: $199/month

The MSRP is the sticker price, but most lease specials provide low payments by not using the sticker price. Instead, the payments are based on the Capitalized Cost (cap cost), which works as the sale price. (The cap cost is negotiable in any lease deal, not just during a special offer.)

The lease-end purchase option (or something similar) is referred to as “the residual” by dealers. The residual is how much the vehicle is anticipated to be worth at the end of the lease, which is what you could buy it for at that time.

The residual is subtracted from the cap cost to determine how much the Camry will depreciate over the lease term, which is 36 months. However, if you do the math, you will notice this difference is not equal to the total payments, which includes interest on the lease. In this scenario, the lease company and the dealer will have about $1,200 of interest to divvy up.

But, “interest” is a word never mentioned during leasing. Instead, a much more convoluted term, money factor, is used. The money factor works just like an interest rate, but it is written as a four-digit number, like .0031. This greatly benefits dealers, since it is tough for buyers to tell if .0031 is a good money factor or not. However, to convert a money factor to an interest rate, multiply it by 2400, which comes out to 7.44%, as shown below:

.0031 x 2400=7.44%

A formula based on the difference between the cap cost and residual, factoring in the money factor and term, is used to determine the total payments, as well as the monthly payment, which is $199 per month, before taxes.

Additional specifications are included to let you know $2499 will be required to take the Camry home, $1,750 of which is a down payment, $550 is the acquisition fee, and the first month’s payment is included. Also, if the vehicle is returned with more than 36,000 miles at the end of the lease, there will be a penalty of 15 cents per extra mile.

However, the fine print also reveals two other important pieces of information possibly affecting your leasing experience. It mentions this lease special is “based on down payment and dealer participation, which may vary by dealer. Payment may vary depending on final transaction price,” as well as the special being available “to qualified Tier 1+ customers through Toyota Financial Services.”

In short, dealers do not have to give you the price specified in the lease and they do not guarantee the money factor used to get the $199/mo payment. Dealers who are less than ethical can use this to deceive customers into spending more than necessary. Once again, this is not a problem exclusive to leasing, but something to be aware of.

How do I know if I should lease?

The true litmus test is to compare the monthly payment for buying and leasing a vehicle, based on your lifestyle. You should also consider how long you plan to keep the vehicle and also to compare a likely trade allowance to what you would still owe.

In the case of the Camry, the lease payment of $199/mo is much cheaper than the monthly payment to buy. At 6% interest over 60 months, using the cap cost as the amount financed, buying the Camry would equate to a $353.53/mo payment.

Although much more money is expended by buying, in the end, you may be able to trade the Camry and get that money back — but you have to get the money from a dealer as trade allowance. If you could accomplish this, you would be likely to have spent about the same amount as if you leased, provided the model retains its high resale value.

However, if the market shifts to biodiesel, a tax break for hybrids is issued, or any other number of events occurs, the Camry’s resale could plummet, causing you to lose thousands in equity.

Not to mention, a Camry is an excellent vehicle to lease or buy, because of its reputation and resale value. With less upstanding models, especially gas guzzlers, the potential to avoid risk by leasing increases greatly.

On the other hand, if you do lease the Camry, you could keep an extra $150/mo over the life of the lease, which is like giving yourself a raise. You could spend it on yourself or put it somewhere it could earn money, such as a money market account, mutual funds or your home loan.

Even without interest, putting away $150/mo. adds up to $5400 by the end of the lease.

Regardless of these factors or anything else, many people will always be against leasing. However, ignoring leasing could cause you to lose thousands of dollars on a Ford when you could be driving a Mercedes or saving hundreds of dollars a month.

Don’t Get Ripped Off When Buying a Used Car

Because there are so many unknowns in buying used vehicles, many people only consider new vehicles even though, dollar for dollar, you can get more vehicle for your money if you buy used. For $300/month you can get a new economy car with only a few options, or, for the same payment, you can afford a wide variety of used vehicles much more luxurious, stylish and sporty.

However, not everyone comes out ahead when buying used vehicles. Mechanical problems are a possibility, as well as being convinced to pay thousands of dollars too much. You do not have to be a mechanic to get a good deal on a car, but you do have to understand the nuts and bolts of a car deal to keep from getting ripped off.

And don’t worry if you have no idea what you are looking at when the salesperson opens the hood; many salespeople are just as clueless. However, a good salesperson can get you to not only agree to, but ask for, terms to make the dealer a $5,000 profit on a used vehicle.

By understanding there are only three types of customers, salespeople can lock you into a pricing scheme taking away your negotiating power. The three types of car buyers are payment buyers, trade allowance buyers and difference buyers. Only difference buyers have the mindset to negotiate a good deal on a vehicle.

Salespeople use the same tactics whether they sell a new or used vehicle, but since law does not require a window sticker on used vehicles, the dealer can hide or adjust the price at will.

Payment Buyers
Salespeople love payment buyers. Payment buyers are customers whose only financial requirement is that the monthly payment fits into their budget. They are typically impulse shoppers and buy the first car catching their eye. Because they agree to buy a vehicle based on the monthly payment, the price of the car itself gets ignored, which means they pay what the dealer asks for the car, commonly referred to as sticker price.

Here is an example of how payment buyers are taken advantage of:

You tell the salesperson you are looking for a comfortable midsized car with some power options and have a monthly budget of $300-$350 a month for a car payment with no trade or money down. After you see a few possibilities, you fall in love with a 2004 Impala LS with 45,000 miles, which you agree to buy if it fits into your payment range despite not knowing the price of the car.

Based on prices and interest rates when this article was written, you could take the Impala home for $335.94 per month.

However, as shown in Figure 1, if you get the dealer to reduce the price by $2,000, your payment drops to $275.30 per month and the total cost is almost $3,000 less over the life of the loan.

Figure 1

Item	Sticker Price	Negotiated Price
Price	$13,500	$11,500
Interest	9%	7%
Term	48 months	48 months
Payment	$335.94/mo.	$275.38/mo.
Total Cost	$16,125	$13,218

Fitting a vehicle into your monthly budget is crucial, but if you buy based only on payment alone, you will walk away with less car or more payment than what you could have otherwise gotten.

Trade Allowance Buyers
The trade allowance is the amount the dealer is willing to give a customer for their trade, and consumers who focus solely on this number can be easily deceived. Trade allowance buyers are usually convinced their trade is worth much more than market value. Many times the desired trade allowance is the amount owed against the trade, or the figure an internet price guide suggested.

A salesperson can make your trade allowance much more appealing if they simply “bump” the price of every vehicle you are interested in.

If, in the scenario with the Impala, you were trading in a Durango SLT SUV, the salesperson could quote you a bumped price of $15,500 on the Impala, instead of the actual price of $13,500.

The dealer might appraise your Durango at $7,500, (which no one wants to hear), so with the extra $2,000 markup to be added to the trade allowance it would show as $9,500. Figure 2 shows that by inflating the sale price, the salesperson can hide the actual value of your trade, and make the trade allowance seem much more acceptable.

Figure 2

Item	Actual Value	Bumped Price
Price of Impala	$13,500	$15,500
Minus Trade Allowance	$7,500	$9,500
Equals Final Price (difference)	$6,000	$6,000

When salespeople bump prices, especially if the customer has received honest quotes, a trade allowance buyer will believe they are getting a great deal, even though are paying sticker price.

Difference Buyers
A difference buyer is the only type of customer who has a chance. As you can see in the above example, the difference is the price of the car, minus your trade. When you focus on difference price alone, you work with what some dealers call “real money.” Negotiating in terms of real money is the only way to be sure you are getting a good deal.

To determine a reasonable difference price, you must use price guides like Kelley Blue Book (KBB), NADA and Edmunds, which can all be found online. The only way to get a reliable difference figure is by subtracting the trade-in value of your current vehicle from the suggested retail of the vehicle you want to buy. The variations in retail price, trade value and difference shown in Figure 3 illustrates the importance of repeating this method with more than one price guide.

Figure 3

Item	KBB	NADA	Edmunds
Impala Retail	$14,265	$13,250	$12,440
Minus Durango Trade Value	$6,500	$8,350	$7,150
Equals the Difference	$7,765	$4,900	$5,290

In this case, you would want to discard KBB’s numbers, since they obviously benefit the dealer more than the other two sources.

However, these guides are not always completely accurate or up to date. This is because they each use difference criteria and are based on averages. (Also, the price of used vehicles can fluctuate rapidly because of gas prices, recalls, body style changes and other factors.) For these reasons, these guides are only tools to help discover a fair difference price.

Aggressive and purposeful negotiations are the only way to find the lowest possible price, but unless you are negotiating with real money, you will probably spend more than necessary.

However, even if you work out a good difference price, the dealer still has one more chance to take your money.

The Finance Department
The finance department (or sometimes called F&I for finance and insurance) is the most profitable part of many dealerships. In addition to selling warranties or add-ons, the finance department can also make money by preparing your loan. You may have noticed in Figure 1 the negotiated payment used a 7% interest rate instead of 9%.

This is because lenders allow finance departments to increase your interest rate, which can cost you hundreds or thousands of dollars over the life of your loan.

You can prevent this by getting a separate quote from one or more lenders (banks or credit unions) before you enter the finance department. Allowing the dealer’s finance department to prepare your loan can be convenient, but they should match or beat the quotes you have already received.

Another benefit to getting a separate rate quote is you can find your monthly payment for various amounts borrowed over different payment terms. The lender can do this, or you can use online payment calculators, like the one at cars.com. Once you know your interest rate and desired payment range, you can do some market research and find out what kind of vehicles fit in your budget.

Like your interest rate, the price of all the products sold by the finance department can be negotiated.

The Importance of Research
Instead of relying on salespeople to inform you of the market value, reliability, safety, insurance rates or fuel economy of a vehicle, you should do your own research and get this information from sources that do not have thousands of dollars hanging in the balance. Payment and trade allowance buyers are taken advantage of because they do little, if any, research and rely on the opinions of salespeople to make their decision.

By knowing the difference number is the only real number in a car deal, you have the knowledge to potentially save thousands of dollars on your next vehicle. If you read up on negotiating techniques, you could save yourself a few thousand more; and, if you go all out, you could save thousands of dollars on repairs, gas and insurance premiums over the next few years.

When it comes to buying vehicles, knowledge is power; the more knowledgeable you are, the more prepared you will be to walk away with a great vehicle at a great price.

Patterson, a freelance writer and former car salesman, can be reached at jaypatterson80@gmail.com for questions and/or inquiries.