Should you buy, or should you lease?
There are advantages and disadvantages to both and nearly as many opinions as there are new-car dealers.
Jeff Siegel, the head of consumer education for the Chicago Federal Reserve Board, lectures groups of consumers about leasing regulations and warns of things to watch for.
“Leasing can be good for those who are financing a car every year and never end up owning it. If you’re going to keep a car for a long time and just drive it to the train station, leasing is not a good option,” Siegel said.
Sandy Silverman, president of Steven Todd Leasing, an independent broker in Northfield, says leasing has several advantages.
“Leasing gives you a reasonable monthly payment without a big down payment,” he said.
“There is no fear of the unknown because the manufacturer’s warranty is in effect for the term of the lease. It’s a crap shoot when you keep a car for six or seven years.”
Owning a car for several years means out-of-pocket expenses for new tires, brake linings, mufflers and other normal replacement items.
Then there is the chance that drastic market changes, say a fuel crisis or safety issue, such as the accusations of unintended acceleration that doomed the Audi 5000, will decimate the vehicle’s resale value.
Leasing a car for two or three years shifts those liabilities to the leasing company, which owns the vehicle.
“You know what the worst-case scenario is as far as cost,” Silverman said.
“You pay $250 a month, and then you’re done.”
Even Silverman concedes leasing is not ideal for all consumers.
“Leasing is not a good idea for everybody, especially those who plan to keep a car more four or five years or longer,” he said. “In Illinois, you’re penalized for leasing a car and then buying it in the end.”
Illinois is one of few states that charges sales tax on the full transaction price of a leased vehicle–the capitalized cost– instead of on the monthly payments.
All neighboring states tax only the monthly payments. In addition, an Illinois consumer who buys a vehicle at the end of the lease pays sales tax again on the purchase price.
“Illinois will never be a short-term lease state with the tax law we have now. It penalizes short-term leases,” Silverman said, noting that two-year leases are more popular in other states.
Geoffrey Harlow, a certified public accountant in Evanston, advises his clients to consider buying a vehicle before leasing.
“It may not be cheaper to lease,” Harlow said.
“It depends on what kinds of incentives the manufacturers are offering, so consumers should look at what incentives are available.”
Automakers push leasing harder at the beginning of a model year, when residual (resale) values are higher.
At the end of the model year, car companies pump up their incentives to buy. General Motors Corp., for example, offers rebates up to $2,500.
Consumers should know the three main factors in the cost of a lease before deciding: the capitalized cost (the price of the car), the interest rate and the residual value (what the car is worth at the end).
“As long as you know what those three things are, you can tell whether the economics are right,” he said.
However, there is no uniform method for calculating lease interest like there is for calculating the annual percentage rate on consumer loans.
Federal regulations prohibit leasing companies from expressing interest as an APR because it can be misleading.
Harlow said leasing companies can furnish a “money factor,” which will be a decimal such as .00312.
Multiplying the money factor by 2,400 will approximate the interest rate. A factor of .00312 is equivalent to 7.5 percent.
“It tells you whether the lease terms are reasonable,” Harlow said of the interest rate.
“If the rate is 12 percent, that tells me that buying it and financing it might be better. If they won’t tell you the rate, it’s a pretty good indication you should go elsewhere.”
Leasing appeals to businesses because the lower down payments improve cash flow.
Most banks want 20 percent down in cash or trade-in value for a new-car loan, though most dealers are more liberal.
“For a small business, very little capital is required with a lease,” Harlow said.
“You’re only paying for the part of the automobile you consume over the lease.”
There also are federal tax advantages to leasing for those who deduct car expenses for business.
“With leasing, you’re deducting very close to what you’re actually paying. When you own it, there are very severe restrictions on how much you can deduct for depreciation,” said Harlow, who leases a Jeep Grand Cherokee.
The maximum depreciation is $3,160 for a vehicle purchased in 1998, $5,000 the next year, $2,950 the following year and $1,775 each in subsequent years.
Fully depreciating a $30,000 car takes 13 years, far longer than most will want to keep them.
The only limit on leasing is the percentage of driving attributed to business use. At least half the miles driven per year have to be for business to qualify for the deduction.
Even so, owning a vehicle can yield a bigger tax break in some situations, so consumers should look at both options.
Harlow analyzed the tax benefits and total cost of leasing versus buying a $30,000 car under the following scenario: 7.5 percent interest, resale value of $16,500 after three years, and using the car for business 75 percent of the time.
The tax deductions work out to $3,861 for owning the car (assuming the owner can deduct interest on the loan, which can be done only for business purposes) and $3,621 for leasing.
Overall, though, the net cost of buying the car is $13,216, while the lease costs $12,903–$313 less over three years, according to Harlow’s calculations.
The scenario assumes the owner can sell the car for $16,500 after three years. With the lease, the car is simply turned in at the end.
The difference in monthly payments shows a huge cash-flow advantage with leasing. The lease requires $459 a month to cover the depreciation and interest and the loan $937.
With a higher-priced car, the depreciation limits “tilt it even more in favor of leasing.” Harlow added.
Leasing broker Silverman said most of his customers focus on the monthly payment, not the tax benefits.
“The tax implications are not that big a deal,” he said. “Far less than 50 percent of our customers lease for tax purposes.”
Silverman thinks some people sweat the details of leasing too much when they should be looking at the bottom line.
“As long as you aren’t going to buy the car at the end, leasing is just a payment,” he said. “Why wouldn’t you want the lowest payment?
“Who cares what the interest rate is? Who cares what the residual value is if you aren’t going to buy the car at the end?”
Leasing has other potential costs to consider.
All leases allow a certain number of miles per year, usually 10,000 to 15,000.
Those who exceed the limit pay an “excess mileage” charge of 10 to 25 cents per mile when they turn the car in.
That prompts advisers to caution that leasing is not a good idea for those who rack up a lot of miles.
Silverman says high mileage is a penalty whether a car is owned or leased.
“Ever owned a 3-year-old car with 60,000 miles on it that you tried to sell? It’s not worth much. That’s true whether you lease or buy,” he said. “If you drive more than the standard amount, build it into the lease, don’t wait until the end.”
Upfront, extra miles might cost 10 to 12 cents each, much less than what they cost at the end.
When a leased vehicle is returned, it is inspected for excess wear that can affect resale value. Ripped or stained upholstery, dents or scratches and broken accessories are examples of damage the consumer has to pay for, and the cost can exceed $1,000.
Siegel of the Fed said this is a major reason consumers complain about leasing.
“Historically, there has been a lot of dispute over what it cost to repair the car,” Siegel said. “Consumers need to get a good idea of what the dealer regards as excess wear.
“We recommend they bring the car back a month or two ahead of time for an inspection to get some of these disputes out of the way.”
Though consumers are penalized for returning a leased vehicle with damage, they are not rewarded for returning a pristine vehicle with low miles. The owner of a car in mint condition is rewarded with higher resale value.
