Blog @WellesleyToyota

The Truth Behind Leasing A New Vehicle: The Professional's Choice

Posted by Nai Nan Ko Jr. on Wed, Oct 10, 2012 @ 07:00 AM

by Nai Nan Ko Jr., General Manager of Wellesley Toyota: As a professional of the automotive industry, I’ve witnessed too often the trepidation from the word “lease.” No matter whether he is a new customer or an old friend, eyes widen, shoulders rise, and hands are drawn: “No, I don’t want to lease a new car because I want to own my new car” is often the immediate reaction I hear.

lease buyThe immediate reaction is understandable. Yes, when you lease a vehicle, you do not own the vehicle. To best understand a lease, think of it as a long-term rental. You rent a vehicle from a financial institution that the dealership partners with. The financial institution is usually a captive arm of the automotive manufacturer. The role of the dealer is simply to produce a custom rental solution for you.

The real beauty of a lease shines at lease expiration. Upon the expiration of the lease agreement, the lessee has a choice: He can purchase the vehicle or return the vehicle to the lessor. (To better understand leases, please refer to “Understanding How Leases Work”) It is this choice to purchase the vehicle or to return the vehicle that makes leasing a truly unique opportunity.

The truth is: Leasing a new car is neither as risky nor as intimidating as urban legend has it. Rather, changes in the last five years (2007-2012) in our financial market, economy, and automotive industry have made leasing a new car both risk adverse, inexpensive, and in some cases more profitable than financing a new car!

Here's why:

1. Leasing hedges your financial loss in the event of an accident.

A vehicle with known accident history will suffer from accelerated deprecation of up to 15% per year. With the advent of third party vehicle history reports from companies such as Carfax and AutoCheck, the most minor accidents rarely go unnoticed. Therefore, the threat of accelerated depreciation has never been greater than it is today. Unless, you lease.

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When you enter into a lease agreement, the lessor is required to buy back your lease at the end of the lease term at a “guaranteed fixed value,” regardless of accident history. The only stipulation is that you have the accident damage repaired to satisfactory standards, which is as simple as calling your insurance agent and bringing your vehicle back to the dealer. Therefore, your total liability in the event of an accident in a leased vehicle is only your insurance deductible. Conversely, if you financed or purchased a new vehicle, you would be liable for not only the deductible, but also the accelerated depreciation.

Of course, there are limits to this assumption. The accelerated depreciation, which again is typically 15% of the vehicle’s current worth, can be less than the insurance deductible. However, there aren’t very many new cars that can be purchased where the insurance deductible is less than 15% of the vehicle’s value. For instance, a $10,000 dollar car will suffer from a $1500 dollar accelerated depreciation in the event of an accident.

2. Lease payments are less expensive than Finance payments.

In September 2012, Toyota of Wellesley offered a Brand New 2012 Toyota Camry SE 4-Cylinder: 

Finance for $750 per month for 36 months with $0 Due at signing.

Or:

Lease for $275 per month for 36 months with $0 Due at signing. 

In this example, the buyer is paying $475 more per month to finance a vehicle than to lease a vehicle. 

Therefore, after 36 months, the cost of vehicle utility comes to:

Finance: $750*36 months = $27,000

Lease: $275*36 months = $9,900

*Leasing saves $17,100 over 36 months of use.

However, you may be asking: “Sure, I agree that I get to keep $17,100 dollars in my pocket, but after 3 years, I won’t have a car to drive.” This is a valid point, so my recommendation is to lease another car for 36 months that is three years younger!

Therefore, after 72 months, the cost of vehicle utility comes to:

Finance: $27,000 + ($0*36 months) = $27,000 (car 1)

Lease: $9,900 + ($275*36 months) = $19,800 (cars 1 & 2)

*Leasing saves $7,200+ over 72 months!

Actually, you’ll save more than $7,200 dollars after 72 months of ownership because of the money saved on vehicle maintenance; maintaining a pair of 3 year old car is cheaper than maintaining a single six year old car. Keep in mind, most major repairs and maintenance expense happen after the 4th year of ownership. And, 80% of all vehicles are traded in for a new vehicle after only five years. 

3. The Lease-End Option can make you money with no downside risk.

The real beauty of a lease is the lease-end option. With a lease, the lessee has two choices at the expiration of his lease.

1) He can return his leased vehicle.

or

2) He can buy his leased vehicle at its guaranteed fixed value, or more commonly referred to as the residual.

In the first option, returning a lease can protect you from accelerated depreciation in the event of an accident. Or, if the lessee is looking for a change in his automotive lifestyle, he can turn in his keys and make a new selection - easy. Typically, there is a disposition fee of $500 dollars depending on the manufacturer. This disposition fee covers the reconditioning, transportation, and resale of the leased vehicle to the wholesale used car market. However, this fee is often waived with the signing of a new lease or when the vehicle is purchased by the lessee.

In the second option, the lessee has the opportunity to purchase his lease at the residual value. The residual value is set at the time of the lease inception. The goal of the leasing company is to accurately forecast the market value in three years, and therefore set, the residual value accordingly. However, the residual value is often always either lower or higher than the market value at lease expiration. Rarely is the residual value equal to the market value. This creates an opportunity for the lessee to make a quick dollar.

Take for instance vehicles leased in 2008 and matured in 2011. The lessees had tremendous equity, upwards of $2000-$3000 dollars between market value and residual value. This is because in 2008, the automotive manufacturers were woeful of a slowing economy and industry bankruptcy. GM, Toyota, et al were selling cars at tremendously low residuals. In 2010, the tsunami in Japan incurred a major supply issue for all manufacturers, which resulted in fewer vehicles manufactured. At the same time, the subsequent increase in demand for vehicles in 2011-2012 compounded the demand/supply issue, and as a result market prices for used cars soared. As a result, lessees had a profit opportunity because their leased cars had market equity.

The converse is not true, and there is no downside risk except for the cost of a disposition fee, which can be waived. If the leased vehicle has negative equity, the lessee simply has to “turn it in.” Take for instance vehicles leased in 2005 and matured in 2008. In 2005, the economy was in good standings. The full effects of the housing crisis had not been realized. Auto manufacturers were confident that leased vehicles would return to the market place in 2008 at forecasted rates. Then, the housing crisis hit. The economy tanked. As a result, the market value of all vehicles in 2008 dropped. At that time, it was best for lessees to simply “return” their cars. And most did.describe the image

4. The Myth: The Bank Owns Your Vehicle

Customers often believe in the myth that they will own their vehicles if they finance it.

This is not entirely true. Whether a customer leases a car or finances a car, the financial lender owns the car. In both instances, the customer is making payments to a financial institution. Until the principle is repaid to the bank, the car is subject to a lien and is the property of the bank. 

5. Manufacturer Perks.

Automotive manufacturers and dealers love the word “retention.” Nearly all manufacturers from Kia to Toyota to Audi and to Porsche have an owner loyalty program. These owner loyalty programs are often lease pull ahead moneys. Specific customers in financial good standing and nearing the end of their lease term will often be notified via mail of an exclusive opportunity to have their last payments forgiven with the lease of a new car. As a result, customers can move forward into a newer car faster. It’s a great perk that I could never say “no” to.

So what’s the flip side? I mean, if it’s too good to be true, then it’s not. Right?

As the professional, I must provide not only the benefits of the lease, but also the disadvantages. There are three reasons why you should be careful leasing a new car. They are: 

1) Mileage constraints

Depending on the make and model, the mileage penalty can range from as low as $0.10 per mile to $0.50 per mile. More expensive mileage penalties are typically found on luxury cars, which are more sensitive to mileage depreciation. If you are driving more than 20,000 miles annually, the mileage penalties may quickly exceed your comfort level. In which case, it may no longer be economical to lease. 

However, keep in mind that excessive mileage will depreciate your car whether you finance or lease. And, if you find yourself going over your mileage limit and need an easy exit, the mileage penalty will be waved if you purchase the car at the end of the lease.* So a good strategy to avoid paying your mileage penalty is to purchase your leased vehicle, refinance it, and continue driving it. The dealer can help you refinance your purchased leased vehicle. 

2) Damage constraints

In the event that you choose not to repair your vehicle, the lessor will bill you for the excessive damage. The definition of excessive damage varies from manufacturer to manufacturer. However, I have found in my experience that the manufacturers are very reasonable with vehicle damage in an effort to maintain a high level of customer satisfaction. Only in instances of negligent abuse have I seen a manufacturer stick its ground. If you’re concerned about discerning the line between normal wear and tear and excessive damage, purchase an Excessive Wear & Tear Insurance policy. It is very reasonably priced, and I would recommend it. 

However, if for some reason you decide not to go through your insurance to pay for the excessive damage, the lessor will often wave the excessive damage penalties if you purchase the car at the end of the lease.* 

3) Time constraints

In the event that you wish to terminate your lease early, the lessor will impose heavy fines. There are manufacturers such as BMW & Mercedes who will allow you to transfer your lease to another individual who will finish making payments on your behalf. However, this is few and far between. I recommend that if you are going to enter into a lease, please make sure you can commit to the full term of your lease. 

Thanks for reading my blog on the benefits of leasing over financing. Of course, the cheapest cost of automotive ownership is to hold on to your car for 20 years – forever! However, with rapidly advancing technologies and increasing gasoline costs, do you want to? Personally as an automotive enthusiast, I have found both practical and emotional arguments to buy a new car every three years. For me, the excitement of buying a new car is one of life’s greatest pleasures!

*All efforts to ensure accuracy are made. Please check your dealer for details.


Topics: Toyota, Buying Guide, Buying, New Car, Lease

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