Let's cut to the chase: buying a used car can be the best financial decision you can make in most cases. But it's not the only consideration. Other features such as technology or newness can take the front seat. So with that in mind, you may be wondering whether to lease or buy a car.
If this is you, let's dive into some key considerations when it comes to leasing vs. buying a car before you head for the dealership.
The difference between leasing and buying a car
Before you figure out if you should lease or finance a car, you need to know the ins and outs of both options so you can pick what is best for you and your finances!
What is leasing a car? How does it work?
So, what is leasing a car exactly? Leasing a car is essentially a long-term car rental. You lease a car over a specified period of time and based on a specific agreement with the car dealer. Some reasons leasing a car may be attractive include:
- There is no overly involved or long sales process.
- It requires a lower down payment.
- You have the potential to trade-in for a new car every few years.
- Your monthly payments may also be lower than buying a car.
How does buying a car work?
When you buy a car, you enter into a contractual agreement to make monthly payments over a specific length of time until you own the car outright. Buying a car may be a better option for some due to the following reasons:
- Complete ownership of the vehicle.
- You can make changes to the car freely without breaching any contract.
- Freedom to drive as much as you would like without considering limits on mileage.
- You can resell the car once you're done with it.
The cost breakdown to lease or finance a car
If you are unsure whether to lease or finance a car, a good place to start is with the costs. When considering the cost of leasing vs. buying a car, it's a good idea to dig a little deeper than the upfront advertised costs.
That's because the numbers displayed only tell part of the story. You'll need to read between the lines and think ahead when it comes to the true cost of your purchase. Especially when you've worked so hard to save for your car!
Let's look at some simple examples of how to do this math.
Calculating the cost of a car lease
To figure out the total cost of a lease, you can use this simple formula:
Total cost = your monthly payment x (the number of months in the lease contract-1) + the amount due at signing
Note that the number of months in the lease contract is less than one because the first payment is typically charged at signing. Be sure to confirm this.
For example, let's say you want to lease a Honda with monthly payments of $199 for 36 months and $1,999 due at signing. The cost of the lease would be calculated as follows:
Total cost = $199 (monthly payment) x 35 (number of months in the lease contract-1) + $1,999 (amount due at signing).
The total lease cost for this car is $8,964.
When looking at lease offers, always keep the mileage limit in mind. If the mileage cap for the vehicle is really low, you may end up spending more money in the long run if you go over the mileage limits set in the contract. Here's a simple car lease calculator to help you run your numbers.
Calculating the cost of a car purchase
The cost of a car purchase depends on many things, such as whether or not you're paying in cash or if you've secured zero-percent financing. That being said, most people take out a loan to make a car purchase.
The easiest way to do the math on a car purchase is to use a simple car loan calculator. Calculators will typically ask for the car price, interest rate, and loan term. Once you enter this information, it will tell you the monthly payment.
To illustrate: Let's say as a car buyer, the car you want to buy is priced at $20,000, and you have $2,000 for an upfront down payment.
You are also trading in a car worth $4,000. In this scenario, you'll only need to finance $14,000. We'll also assume that you are eligible for a loan with an interest rate of 5% over 5 years.
The formula is as follows:
Total cost = (your monthly payment x the length of the loan in months)+ your down payment + your trade-in value
Using an auto loan calculator, your car payments would come to $264 in monthly payments. And the total cost of the car would be: ($264*60) + $2,000 + $4,000) = $21,840
Keep in mind that buying a car can be more expensive in the short term than leasing. This is because your monthly payments may be higher with buying than they would be leasing, so leasing may give you lower monthly payments.
Refinancing a car loan, though it could lower monthly payments or interest rates, could also be more expensive than leasing. This is simply because by refinancing you extend the amount of time to pay off the vehicle and in turn the compounding interest on the loan.
However, when all is said and done, and you've finished paying off the loan payments, you'll own it outright. You can learn more about the different ways to save money on your car expenses if you decide to buy vs. lease.
Understanding monthly cost with lease vs. buy
Another way to help you decide whether you should lease or finance a car is with the help of a lease vs. buy car calculator.
It calculates your monthly payment between a lease or a loan. This makes the money factor easier to understand. Keep in mind you'll still need to factor in costs like car insurance.
Here are a few of our favorites you can compare your rates with:
Understanding the fine print of a car lease
On the surface, leasing looks pretty easy. However, the reality is that it may not always be that straightforward. If you've never leased a car before, you will want to go over the paperwork to avoid any misinterpretation. And accountants or an attorney can help you with this if you need the support.
If you breach the terms of your lease contract, it can result in significantly higher monthly charges for you. Here are some key items to watch for:
Mileage restrictions
Car dealerships often place a limit on the number of miles a car can travel (typically 12,000 – 15,000 miles). This is because they want to preserve the car so they can sell it in the future. Any violation of the lease requirements results in a surcharge (from $0.01 to $0.15 per mile, and sometimes more).
Wear and tear
If a car is returned at the end of a lease agreement with excess wear and tear, the lessee is responsible for repair and replacement costs. This can add up to big out-of-pocket costs to you.
Payment terms and penalties
As a lease owner, you'd need to carefully read through the payment terms and understand the penalties associated with not meeting those terms. Of course, whether you lease or buy a car, you need to be fully aware of the conditions of the contract or loan you take on.
Warranty
The manufacturer's warranty from your lease can save you some costs to your vehicle when leasing. While normal wear and tear are not, some other things are covered, so be sure to check out the details when you consider this option.
Car Insurance
Although car insurance is always mandatory, there are requirements for the type of insurance coverages you need to have when leasing a car.
You may need collision and comprehensive coverage for this vehicle. While some may view this as a drawback, it's really just a cost that needs to be factored into your total.
Does an auto lease fit your lifestyle?
The choice between lease payments and buying boils down to what you think works best for you and your finances.
When you lease a car, you are essentially paying to borrow a vehicle that you don't have an ownership stake in. This is similar to renting an apartment. However, if you're not looking for ownership, leasing may be right for you.
Additionally, for some, the thrill of driving a new car every few years without being tied to permanent ownership makes a world of difference. Leasing gives you this opportunity.
For business people who are considering whether to lease or buy a car, leasing offers more tax write-offs than a loan would, letting you maximize your tax deductions and ultimately lowering your tax bill.
Car depreciation and financing costs are deductibles per the rules given by the IRS.
How to get out of a car lease
Stuck in a car lease? Sometimes, life happens, and you might find yourself in a situation where you need to get out of your lease.
Maybe you don't like payments you have to make, or perhaps you're starting to view your car as an asset you would rather own. There are essentially 3 ways to go about it, and they each come with different cost implications. Let's go over them.
1. Terminate your lease early
Some leasing contracts offer an early termination option which will release you from your commitment to making monthly payments on the car. However, it also means that you have to turn in the car and make payments due on it, including any termination fees and penalties.
One thing to keep in mind, if you're still early in your contract, is that your termination fees will be higher and may be more expensive than if you just finished the lease as originally planned!
2. Transfer your lease
Terminating a lease can be expensive, but there is another potential way out – transferring the lease. In many cases, you can find someone to transfer the lease to as long as they meet certain requirements.
In addition, if you don't know anyone looking to take on a lease, there are third-party companies that specifically offer this service. Be sure to do your research, read reviews, and determine any associated costs.
3. Buyout your lease
Another great way to transition out of a lease is to buy out your lease. You can do this by purchasing your car upfront. If this is an option, you can do the math to see if paying the buyout amount (plus any associated fees and taxes) and then selling the car makes sense financially.
A lease buyout works best if the market value of the car is higher than the leasing company's estimated value of it. To determine what the leasing company valued the car at, you can look for the "residual value" in your lease agreement.
As long as the market value of the car today is higher than the residual value listed in the agreement, you will be in a great position.
Can you purchase a leased car? (Lease to own)
As mentioned above, it is possible to purchase a leased car, and there are valid reasons why you may want to do so. For starters, if you buy your leased car, you have the fortune of knowing exactly where it's been and what condition it's in - which is not the case when buying a used car. This may also help with resale value.
If you've treasured the car, SUV, or truck while leasing it, it may be a no-brainer to purchase it when the lease is expiring. If, on the other hand, you did not handle it with care and you potentially faced high fees and penalties for wear and tear, you may be better off purchasing the car.
Another scenario where purchasing a leased car makes sense is if you've gone over the mileage restrictions. There are often penalties associated with going over the mileage that may make buying your leased car cheaper.
Should I lease or buy a car quiz
Are you still on the fence on whether you should lease or finance a car? Our custom mini "Should I lease or buy a car quiz" will help you determine what's best for you!
1. How many miles do you drive per year?
A. Less than 12,000
B. More than 12,000
2. How long do you typically keep a car for?
A. Less than 3 years
B. 3 or more years
3. Would you rather:
A. Save on maintenance repairs
B. Own your car free and clear
4. Do you prefer to have the most current features and technology?
A. Yes, I want the latest and greatest luxury features and modifications!
B. Not a necessity. I'd like the freedom to customize my car the way I want.
5. When I get a new vehicle, I usually:
A. Trade it in on a newer model before it's paid in full.
B. Keep it once it's paid off.
Should I lease or buy a car quiz results!
Here are the results based on our mini-quiz on whether you should lease or finance a car!
Mostly As: Leasing might be up your alley!
If you answered mostly A's on the quiz, then leasing may be a good option for you. You drive less than 12,000 miles per year, you love techy up-to-date cars, and you don't want to worry about the cost of maintaining your car.
enter into a "high-mileage" lease, but the payment can be higher. However, it would be worth it if you do typically drive more than 10,000-15,000 miles a year because you can rack up fees for over exceeded the mileage stipulations within your lease.
As with anything, always read the fine print and make sure you are doing what's best for you and your wallet!
Mostly Bs: You would rather own your car!
So, it's no mystery now whether you should lease or buy a car because you answered mostly b's on our "Should I lease or buy a car quiz!"
Buying is best whether you want to hit the open road and take family vacations without worrying about excessive mileage stipulations or simply want to eventually own your car and not have debt!
You like stability, and when you buy a car, you typically have it for more than three years. So, now that you know you would rather buy your car, now you just need to know what kind. Take our car buying quiz to figure out the perfect vehicle for you!
Be financially ready whether you lease or buy a car!
So there you have it. While the decision between owning or leasing a vehicle is not a light one, your decision can be easier once you do the math!
So do your research, shop around and run your numbers. You'll be on your way to driving the perfect car for you soon!
Prepare financially, whether you lease or finance a car, by creating a budget that works. Learn how with our completely free budgeting course! Also, tune in to the Clever Girls Know podcast and YouTube channel for top tips on all things money!