Before joining Edmunds in 2013, Matt Jones worked in Southern California car dealerships as a salesperson and sales manager. He also worked in the finance and insurance department.
When I began selling cars in 2001, leasing was a small part of the automotive landscape. Now, leasing makes up nearly a third of all new vehicle transactions. In fact, lease volume grew for the seventh consecutive year in 2016, to an all-time high of 4.3 million units.
It's easy to assume that leasing is simply more accepted than it was all those years ago, and that's the reason for the increase in lease deals. But is there more to the story?
I've been involved in thousands of car deals and have seen nearly every possible car-deal scenario. And while I agree that leasing is indeed more accepted than it was when I started in the business, I don't think all shoppers who are leasing are doing so because they actually want to. For some shoppers, leasing is the only sensible option. Here are six reasons why:
1. Cars Are Expensive
In 2016, the average transaction price for a new car was $34,077, and here at Edmunds, we expect that number to jump to $35,000 in 2017.
While the smart money says to buy an inexpensive car, make a 20 percent down payment and drive it until the wheels fall off, that's not happening. If the average transaction price is $34,000, the average down payment should be somewhere around $6,800. But $6,800 is $2,400 more than the average American has in his or her checking account. The average shopper is making a down payment of around 10 percent. The average purchase payment is more than $500 per month, and the average loan length is 69 months, or nearly six years.
Those "average" terms are just too much for some shoppers. Some people in the market for a new car simply need a low down payment and low monthly payments. Leases offer both.
Consider a shopper looking to acquire America's top-selling sedan, the Toyota Camry. A quick look on Toyota's website reveals a 36-month lease offer for the slightly above entry-level four-cylinder SE model for $189 per month with $1,999 out of pocket. The sticker price for the SE Camry is a bit less than $25,000.
Compare that to a traditional purchase: With a down payment of $1,999 and a zero interest five-year auto loan, a shopper deciding to purchase this car would have a monthly payment of about $400. Signing a six-year loan would drop the payment to something in the low-$300 range, but that would still be $100 more per month than the lease.
For a shopper looking for low monthly payment for a safe family vehicle, that $189-per-month deal might be awfully tempting. And it would be less than the average monthly payment for a used car, which was $380 in 2016.
2. People Experience "Payment Shock"
As a car salesman, I used to put shoppers into one of two groups: those who wanted to buy and those who wanted to lease. Each group asked different questions and had different concerns. And generally when they said they wanted to purchase or to lease, that's exactly what they did. As cars became more expensive, the rules started to change. By the time I stopped selling cars, it was common for a person looking to buy a car to decide, sometimes right on the spot, that a lease was the better option. And usually that decision came shortly after I told them what the monthly payment would be.
I remember the first time one of my customers switched from a purchase to a lease because the payment was too high. The buyers were a middle- aged couple. She was a teacher and he was in law enforcement, and they wanted to buy a new Honda Pilot. While we were negotiating, the couple didn't want to talk about monthly payments. All they were concerned with was getting the lowest possible out-the-door price. They had excellent credit and intended to finance the entire purchase with no down payment.
We agreed on an out-the-door price of $35,000 and I started preparing the paperwork. When I showed them the $610 payment that goes along with a 60-month loan for $35,000 at 1.9 percent annual percentage rate (APR), they were absolutely shocked. They had no idea the payment "for a Honda" could be so high. That $610 monthly payment was too much for their budget, and it looked like the deal was off.
Before they left my dealership, I offered them a lease. Same SUV, no down payment, but a monthly payment that was far less. After discussing it for 20 minutes by themselves, they decided the lease would work and they signed the deal.
That was more than a decade ago. These days "payment shock" happens so often that many dealerships offer both lease and purchase payments up front — even if the shoppers say they intend to buy — to help shoppers make a decision that much faster.
3. People Want to Buy Used but Can't Get a Used-Car Loan
I saw this scenario all the time when I sold cars: A shopper walks onto a dealership lot looking to finance a used car in the $8,000-$10,000 range. The goal is to get a nice low payment. But he ends up leasing a new car.
This doesn't happen because of some dealership bait-and-switch scheme. It happens because of the way banks approve or decline loans. Some banks won't offer a 60-month loan on older cars or on cars with lots of miles on them. A used $10,000 car may be too old or have too many miles to qualify for standard financing terms or a low APR. Instead, banks often will only approve these cars for shorter loans with higher APRs. So even though the car has a low selling price, a low payment might not be available.
The shopper is hoping to get a $10,000 loan for 60 months with a 4 percent APR, yielding a $184 monthly payment. What the bank will go for is a $10,000 loan for 36 months at 11 percent APR, yielding a $327 monthly payment.
A shopper presented with a $327 payment on an 8-year-old Toyota Corolla with 100K on the odometer may simply choose to lease a new Corolla instead, especially if the reason for getting an inexpensive used car is a low monthly payment. But if the payment is less on the shiny new car, the prospect of leasing becomes even more attractive.
4. People Have Imperfect Credit Scores or No Credit History
There are some new-car shoppers who have a hard time getting the best terms, meaning the ones you see advertised all the time. These include first-time buyers, recent college grads and shoppers with less than stellar credit scores. They often find better terms if they lease.
Here is an example, using a Honda Civic. A buyer with second-tier credit (not great, not terrible) could get a loan at 5 percent APR. With $2,000 down and a 60-month loan, she'd pay $347 a month. By leasing, she would also pay $2,000 out of pocket. The lease term is 36 months, and even with a second-tier money factor (the leasing equivalent of a loan's APR), her monthly payment is $177.
Which option looks more attractive to somebody who is trying to get back on solid ground financially?
5. They're Upside Down in Their Current Car Loan
Edmunds last year released a study that revealed more shoppers are upside down than ever before. "Upside down" is industry-speak for owing more money on a vehicle loan than the vehicle is worth. If a person owes $10,000 on a vehicle that's worth $8,000, she's $2,000 upside down. Put another way, she has $2,000 of negative equity.
Nearly a third of car shoppers who traded in a car for something new during the first nine months of 2016 had negative equity of just over $4,800, according to the Edmunds study. Unless a shopper starts a new deal with enough of a down payment to cover that negative equity, that amount will be folded into the selling price of the new vehicle, making it even more expensive.
A lease can help clear the decks for a car owner who is upside down. To illustrate this point, I "mystery shopped" a large Honda dealership. I said I was interested in the 2016 Honda Odyssey. I told the dealer I had excellent credit, was $4,800 upside down on my current car and had a down payment of $3,000. In other words, I was going to trade in that car and fold the $4,800 I still owed into the Odyssey's purchase.
The purchase terms I was offered came down this way: On a 48-month car loan, my payments would be $711. Ouch. For a 60-month loan, the payment would be somewhat lower, but still high: $572 a month. With a 72-month loan, the monthly payment would be $493.
If I were to lease? With the same $3,000 out of pocket, my 36-month lease payment would be $438 per month. And the negative equity goes away.
A shopper who wants to do a traditional purchase would need to put down roughly $11,000 to get that same $438 payment for 60 months. As a person who sold cars for more than a dozen years, I can tell you that most shoppers are not prepared to make an $11,000 down payment.
6. They Have Excellent Credit but Still Can't Qualify for the Car Loan They Want
Excellent credit doesn't guarantee a loan approval.
Let's take a shopper who has $3,000 for a down payment on the 2016 Honda Odyssey from the previous example. He's OK with a 60-month loan and its monthly payment of $572. But based on his stated income and debt-to-income ratio, the bank might not agree that he can handle that payment. It might not approve the loan even if he has excellent credit.
When a bank decides the shopper is creditworthy but doesn't have the income to support a hefty monthly payment, it may counter with an offer it would approve, and that is almost always a lower monthly payment. That is what's known as a "payment call."
Let's imagine the bank makes a payment call of $450 per month for the Odyssey. The customer would need to either make a down payment large enough to reduce the payment to $450, or lease the vehicle. Unless the shopper can add $8,000 to his existing $3,000 down payment, chances are good he will sign a lease.
Leases Aren't Perfect
Leases aren't perfect and they aren't for everybody. Mileage limits can be a drag. Excess damage charges can be painful. And then there's this: In the long run, leasing cars over and over will cost more money than buying a new or used car and keeping it. But as sticker prices on new cars keep rising, I expect leasing will be become more and more popular. Not just because people want to lease, but because many won't be able to afford to buy.