When Buying Used Makes More Sense Than Leasing

Amazingly low monthly payments might make leasing seem like a no-brainer. But a closer look at the related costs of leasing (and its long-term expense) might convince some people to return to the miser's favorite ride: a good used car.

Leasing is presented as a quick, easy and affordable way to get into a new car. And for many people it is. But there are some fees that people often don't take into account, and those can quickly add up. Furthermore, at the end of the lease term, you have to decide whether to start a new lease cycle. You might eventually become a "serial leaser": someone who always has a car payment. Over a lifetime of driving, this can be costly.

This isn't to say that leasing is a financial trap. It just might not be the best option for some people. Furthermore, if you look at your financial future and consider costs over years of vehicle ownership, there is definitely money to be saved by buying used rather than leasing new. This leaves you with a question: How important is it to always be driving a new car?

In the past, one strong argument for leasing was that it provided the latest technology: something that could only be found in new cars. But now, many major advances in technology and safety equipment — such as radar-based collision warning systems, adaptive cruise control and blind spot warning features — are available in many used vehicles that are around 3 years old. In addition, many 3-year-old cars have the same body styles as the current models. So you won't be seen as being behind the times.

Here is a list of other points that might make you choose used-car buying over new-car leasing:

No Mileage Restrictions: Lease payments are commonly based on driving either 10,000 or 12,000 miles per year. If you drive over the limit, you will be charged 15-20 cents for each extra mile. This is a nasty surprise to many people who lease.

Used car buyers face no such penalty. And when it comes time to trade in or sell the used car, those extra miles don't depreciate the car at the rate of the leasing mileage penalty. In other words, if your driving pattern suddenly increases, leasing could be costly. There's no such danger if you buy a used car.

Less Stringent Credit Requirements: Those enticing advertised lease payments are limited to shoppers with top-tier credit. If your credit is mid-tier or lower, your lease payments will be higher. Used-car buying does not require top-drawer credit.

Lower Insurance Rates: With leasing, you finance the entire value of the car over a relatively short amount of time, so the leasing company requires you to carry more insurance than if you had bought the car and made a hefty down payment. Used car insurance rates can be better tailored to the amount of risk the owner is willing to assume, which saves money.

Lower Registration Costs: When you lease a car, your first year's registration is rolled into the lease payments. But the second and third year of the lease will require a registration renewal payment based on the value of an expensive car. This could be hundreds of dollars more than a comparable used car.

No Additional Fees and Penalties: Many leasing companies have a "disposition fee," meaning that they charge you to turn the car back in. Often, this is between $300 and $600. Additionally, you could be charged for excess wear and tear on the vehicle. It's true that you could buy an up-front warranty to protect against this. Or you could pay to fix up the car before you returned it at the end of the lease. In both cases you are still going out of pocket. Used cars don't have such fees and penalties.

Less Depreciation: We saved this factor for the last since it is so significant and requires more explanation. Lease payments are based on the car's depreciation for the first three years, which is from 40-60 percent (plus fees, interest and tax). A comparable 3-year-old used car depreciates only 20-30 percent over three years. So, on the one hand, you have an expensive car depreciating a lot, and on the other, a less expensive car depreciating slowly. You can see why the used car will cost less.

Penciling It Out

For example, look at a new midsize sedan that has an Edmunds True Market Value (TMV^®) price of $24,500 and, in our example, leases for $0 down and a monthly payment of $319. Excluding all other expenses, such as insurance, extra fees and maintenance, the out-of-pocket cost would be $11,484 over three years. (Remember that when you lease a car, you only pay for the value you use — in this case, that's just under half the car's total value.)

By contrast, the same car, but three years old, would sell for just $16,053 at a dealership, according to Edmunds TMV. (The private-party sale price would be lower.) Once you pay tax and registration, the out-the-door price is $17,623. Then, let's say the owner sells the car three years later for the Edmunds predicted price of $11,500. That figure represents three years of depreciation, from the third to sixth year of ownership, based on Edmunds' True Cost to Own^® calculations. This means the total out-of-pocket cost for the three years of used car ownership, excluding DMV renewal fees and any repair costs, would be $6,123 (the cost of three years' depreciation and the up-front tax and registration fees). That's $4,346 less than leasing. This example assumes that the shopper buys the car for cash. However, in recent years, used car interest rates have dropped to as low as 1.9 percent, so interest costs would only be an additional $521.

The wild card in this scenario would be the cost of repairs to the used car. If the 3-year-old car proved reliable, the saving would be what is calculated here. If it needed repairs, savings could be less. This is an area in which leasing has a potential edge: With a leased car, most repairs would be free, since they would be covered under the factory warranty. And some makes, such as BMW, also cover maintenance costs during a three-year lease.

The Bottom Line

There are trade-offs to consider when you weigh a used car purchase and a new car lease. The biggest factor to consider is this: Are you willing to pay more to drive a new car every three years? If the answer is "maybe not," do your best to accurately estimate your future vehicle usage and all related expenses for both leasing new and buying used. As the years go by, you may find a very good use for the savings you achieve by buying a solid, newer used car.