If you're new to leasing, you probably have some questions about how it works. This overview is meant to explain the basics, including the answers to these questions:
- What is a lease?
- Why do people lease?
- What key numbers do I need to know if I'm going to lease?
- How can I quickly determine if I'm getting a good deal?
This article won't cover all aspects of leasing, but it should be enough information to get you started. If you want to get into the nitty-gritty, we've got 10 Steps to Leasing a New Car, a comparison of leasing, buying a new car and buying a used car and a deep dive into calculating your own lease payment
What Is a Lease?
Some people think a car lease is nothing more than a long-term car rental. And although that isn't a completely accurate comparison, it is good enough: A lessee (you) pays money to the lessor (the bank, which is the actual owner) to use the car.
The agreement is set for a certain length of time, usually two or three years. During this time, you're allowed to drive the car for a set number of miles, usually between 12,000 and 15,000 miles per year. You can raise those limits, but more miles mean a higher monthly payment.
Your use of the car and the miles you'll drive will reduce the car's value. Your lease pays for that depreciation. You also pay lease fees and taxes.
Here is an example, based on a new car with a $20,000 price tag. Let's say this car is projected to be worth 60 percent of its original value after it is 3 years old and has been driven 36,000 miles. In that time, it would have depreciated 40 percent, or $8,000. So through the lease, you are paying for that $8,000 of lost value, plus lease fees and taxes, spread out over the 36 months you'd have the car.
You're expected to return the car in pretty good shape when the lease is up. If you return the car with damage (known as "excessive wear and tear" in lease-speak) expect to be charged for it. If you drive more than the allowed miles, expect to be charged for that, too.
Why Do People Lease Cars?
Here are some popular reasons:
- It's less expensive: With the rising retail price of many of today's cars, leasing is often the least expensive way to get a new vehicle. Leases tend to require lower down payments and lower monthly payments than car purchases. A lease is also a great way to get a nicer new car for less money than you'd have to pay to buy it.
- There's a lower cost of maintenance: Leases typically end before cars require major service or new tires, so maintenance costs are usually low. Leased vehicles are almost always under the original factory warranty, so owners don't have to worry about the costs of repairs — as long as they are problems covered by the warranty.
- You can have a new car every few years: Some people always want to be in the latest and greatest new car. Leases, typically for three years, offer a faster turnaround time than the standard purchase cycle, which is about six years. Leases are also easier to exit, once the lease term is complete. Assuming there are no over-mileage or excessive-damage charges, you can drop off the leased car and move on to whatever is next — which probably is another lease. This is a lot easier than buying a car with a long loan period, and tiring of the car before the loan is paid off — especially if you owe more on the car than what it is worth. That's called being "upside down," and it's no fun.
What Key Numbers Do I Need to Know if I'm Leasing?
There are five:
1. Sale price: Your lease payment is based in part on the sale price of the car. Just like when you buy a car, the lower the sale price, the lower the lease payment. To make sure you're getting a fair sale price, check out Edmunds average price paid, also known as True Market Value (TMV®). This tool tells you what other people are paying for the same car.
2. Residual percentage and amount: The residual value of the car is expressed as a percentage, and it's an important part of your deal. The higher the residual percentage, the lower the amount of depreciation you have to pay. In other words, a high residual percentage should net you a lower monthly payment. The residual is also the amount you would pay the bank if you decided you wanted to purchase your leased car at the end of the term.
3. Allotted miles and the over-mileage charge: When you sign your lease, you're allowed to drive a certain number of miles annually. If you exceed that, you'll be charged a fee, usually assessed in cents per mile. They can be high: from 15 to 25 cents per mile. If you think you're going to go over the mileage limit, you can add extra miles when you sign your lease agreement for a small increase in payment. This will likely be cheaper than paying the overage later. If you do go over your miles but you've decided to buy the car when the lease is over, you will not be charged for going over the allotted miles.
4. Disposition fee. This fee is charged by the leasing company to cover the expense of cleaning up and selling the car after you return it at the end of the lease. Most charge between $300 and $400. You normally won't be able to avoid this charge unless you buy the car at the end of the lease or, in some cases, lease or purchase another car of the same brand.
5. Money factor: This is the lease equivalent of the annual percentage rate (APR) in a car-purchase loan. As with an APR, the lower the money factor, the better. Unlike an APR, it's unlikely that the dealership will offer you a lower money factor than you got with your credit union or bank. Money factors are very small numbers, such as .00125 or .00074. Multiply by 2,400 to get the equivalent APR.
How Do I Know If I'm Getting a Good Deal?
Lease specials are the quickest way to find a good deal:
- Edmunds lists attractive leases from different carmakers at Edmunds.com $199 Lease Deals of the Month.
- Nearly every carmaker has lease specials posted on its website. The cars in these lease specials are usually priced below the manufacturer suggested retail price (MSRP) and often represent a good deal.
- Dealership websites are also a good place to check for lease specials. Many dealerships showcase lease specials that have been tailored to fit the local market, and the terms are often lower than those being offered by the carmaker.
If a dealership offers a lease that is at or below the offers made by the carmaker or the Edmunds.com $199 Lease Deals of the Month, you're in pretty good shape. If you want to shave off every nickel from your lease payment, you'll have to shop for your deal, just as you would if you were buying a car. There are a few differences between shopping for a lease and shopping for a car to buy, so here are some steps to follow:
- When it comes to traditional car buying, many shoppers look to lower the car's price first, and then they work out the other details, such as the APR and taxes. When you're searching for a lease, you want to look for the best overall lease deal, not just a low selling price on the car. For most people considering a lease, the best deal boils down to two factors: the lowest amount to pay to begin the loan (the "out of pocket," in lease-speak) and lowest total monthly payment.
- Get lease quotes from three different dealers. A phone call or email to a dealership's internet salesperson should take care of it.
- As you shop, you need to compare the same terms, so ask the dealers for a lease quote that clearly states the total initial out-of-pocket amount, not just the down payment. This quote should include registration, taxes and all fees. The same applies to the quote for the monthly payment. Specify that you want the total monthly payment, including taxes.
- Once you've got the deal that makes the most sense, ask the dealer for a complete breakdown of the selling price, the residual value and the money factor. To be sure the car's sale price is the same or less than what other shoppers in your area are paying, compare it to Edmunds' average price paid.
That's it. Leasing can sound complicated at first, but it's not really. And if you have any questions, contact our Live Help team. They can answer them all and make leasing a snap.
To find a dealership that knows how to treat shoppers right, please visit Edmunds.com's Dealer Ratings and Reviews.