Should you lease or buy a new car?

Don’t get me wrong. I firmly believe that in many cases it is the most economical way to buy a secondhand car and keep it for years before you buy a brand new one. However, for those of you who prefer a new car, I hope this blog could help you decide whether to lease or buy.

In my opinion, if you break down the component of the payment, you would have a better understanding of the difference between leasing and financing a car.

Leasing is just another way of financing a car. A lease payment usually consists of three parts - depreciation cost, finance charge and sales tax. The depreciation cost is based on the value lost on the car during the lease term. It is estimated by the manufacturer based on brands and models but should be very consistent and relatively accurate across the dealers. It is usually not something you can control. The finance charge is the interest you pay on the money that the leasing company used to buy the car from the dealer.  It is calculated differently by using money factors rather than interest rates on an auto loan, but the concept is similar. In most states, you only need to pay sales tax on your lease payment rather than the total price of the car.

Most people are familiar with how an auto loan works. Just like a mortgage, a monthly payment includes principal and interests. The biggest difference compared to a lease payment is that your principal is based on the selling price of the car rather than the estimated depreciation amount alone. No matter leasing or financing a car, the depreciation amount is same. Most of the other parts of your principal will be used to build up the equity in your car. The rest of the principal is sales tax. You are paying it every month as part of the monthly payment.

If you still have questions about car lease, this article could be helpful.

After you get a basic idea about the difference between leasing and financing a car. Let’s look at the questions below to help you make a decision.

  1. Do you want to customize your car?

    If the answer is yes, you should consider buying as your first option because you cannot make any changes to the car that you lease. In other words, when you lease a car, you need to get rid of all or at least most of your modifications and customization when you return it. The bottom line is that you do not own the car during the lease term.
     
  2. What is more important to you: lower payment today or more savings for the long run?

    Provided that the other factors remain the same, the lease payment is always much less than loan payment because you are only paying the depreciation cost and partial sales tax. However, it will cost you more in the long run because your payment will never end if you keep leasing.  If you need low monthly payment to get extra cash flow, you should consider leasing.

    Personal experience: To keep my monthly expenses low, I leased a car with $0 money down when I got my first job because I didn’t have much savings at that time. But we decided to purchase a new car for my wife early this year because we plan to keep the car for at least five years. Also, we would like to get rid of any car payment in 5 years to qualify for a home mortgage.

  3. Are you planning to get a new car every two to three years?

    If the answer is yes, it may be the best option for you to lease a car due to the lower monthly payment mentioned above. Provided that everything else remains the same, the overall cost of leasing or financing should be similar, assuming the lessee returns the car at the end of a lease end and the buyer sells the car at the end of a loan. The cost of leasing sometimes may be a little higher due to the additional acquisition and disposition cost. However, the actual net cost could be lower if you invest the difference between the lease payment and the loan payment every month wisely.

  4. Do you use the car for your business?

    If so, you may be able to deduct more auto expenses as business expenses by leasing. The tax rules related to this are complicated and beyond the scope of this article. You could learn more about it from here, or you could consult a tax adviser like us. 

    Personal experience: I will return my leased car at the end of this year and lease a new one for my company.

Have you decided already? There are still several things you should know before making your final decision.

  1. In general, it is not your concerns about the potential charge on extra mileage and excessive wear and tear. These will cost you money whether you lease or buy a car.
     
  2. The insurance premium for a leased car is usually higher than a financed car with the same coverage. The actual difference is based on the brand and the model of the car.
     
  3. A leased car usually requires a higher minimum amount of insurance coverage. However, you should not decide on any insurance purely based on the price. The most important thing for insurance is to get the right amount of coverage.
     
  4. You may have to pay some additional fees associated with a lease, including acquisition fee when you enter the lease and disposition fee when you return the car. The amount is usually a couple of hundred dollars each depending on the brand and the model of the car.
     
  5. The lease transfer market is making things easier for those people who have to get out of their lease early. However, it is still not wise to lease a car if your personal situation is not stable enough to keep the lease to the end due to transfer hassles and fees.

I hope that you are now informed and ready to make a decision. Before you go to the dealer, I just want to give you some final tips.

  1. Get an idea of what other people are paying for the same car at https://www.edmunds.com or https://www.truecar.com.
     
  2. No matter whether you decide to lease or buy a car, the most important thing you should care about is the price of the car. Do not get intrigued by a “special” deal with very low monthly payment. Read the fine print.

    Personal experience: I bought a new car early this year at a price about $5,000 or 10% below the sticker price. 
     
  3. With current low-interest rate environment, I recommend getting your down payment as low as possible if you could afford a higher monthly payment. Because if you invest the money that you save from the down payment, you should be able to generate a higher rate of return in the long run. 
     
  4. It's not necessary to get your car loan directly from the auto company. The interest rate that the auto company provides you is usually not the best rate you could get from a third party lender, such as credit unions. However, the auto company sometimes has a special financing deal with 0% interest rate. You should definitely take advantage of it. 

    Personal experience: I initially got the loan on my new car with 3.9% interest rate from the auto company because they waived my first payment. Then I shopped around and refinanced it through a credit union with 2.49% interest rate. My monthly payment went down by more than $60/month for a same 60 months loan. 
 

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