A car lease lets you use a car for an agreed-upon time — typically two to five years — if you pay for the vehicle's depreciation during that time. Similar to how rent payments work, the lessee usually pays monthly lease payments along with other charges, such as a one-time security deposit, specified in the terms of the lease. Leasing lets you enjoy the convenience of a car for a while without having to pay the full price for it.
What is a Lease, and How Do You Lease a Car?
To lease a car, just visit a dealership with a vehicle in mind, and ask to lease it. Using your credit score and other criteria as benchmarks, the dealer then draws up a monthly payment plan for your new lease and asks for a down payment. This down payment is usually much smaller than the 20 percent of a car's value you're expected to pay when buying it new. When the lease term expires, you can bring the car back to the dealer, ending your monthly payments, or you can buy the car for its residual value — namely, the amount left over after its depreciation while in your hands. Leasing is ideal if you don't want to pay for an entire car or if you want to drive something outside of your usual price range for a time. A lease agreement usually stipulates how many miles you can drive per year (10,000 to 15,000 is common) and requires you to take good care of the car so it doesn't depreciate too quickly. When your lease contract expires, you can lease a new car right away.
Leasing a car is similar to leasing real estate, such as a house, office space or commercial real estate, in that both car and real estate lease agreements feature much longer terms than rental contracts. Even six-month-term leases are short by lease standards. Unlike residential leases or commercial leases for property, though, you're expected to negotiate down from the sticker price of the vehicle to a capitalized cost, or "cap cost." Typically, you can settle on a much smaller cap cost than you might think. In addition to paying for the car's depreciation every month, keep in mind that you also have to pay the lessor a bit of interest every month in exchange for tying up their capital. At the end of the lease, you may also have to pay wear-and-tear fees, plus repair fees, if necessary. Also, you may get stuck with disposal fees, if you decide not to buy the car, not to mention any charges for late payments or for returning the vehicle earlier than the term of the lease.
The Advantages of Leasing a Car
Leasing a car has many advantages over buying one. For one, lease payments tend to be lower than car loan payments, so you can afford to lease a car that's more luxurious than what you could afford to buy. Also, you don't have to pay the sales tax for the whole car right away. Instead, you pay a sales tax on each lease payment. There are many kinds of leases out there, but most by-the-month leases for cars are less complicated than car purchases. Besides, you don't have to worry about the long-term value of the vehicle, since you get to trade it in once the lease contract is over. One of the other significant leasing perks is that you can try out a wide variety of cars by leasing a different make and model every few years. You don't have to worry about buyer's remorse if the vehicle doesn't work for you, and you don't have to figure out how to sell the car when you want to trade up or repair the vehicle once the warranty expires. When leasing, you're most likely always going to be on a warranty, and, since you can still lease new cars, you don't have to worry about more than routine maintenance. Leasing is especially useful for businesses that need to transport goods or people but can't afford the cost of a new car. Since businesses are often short-lived, leasing the car hedges against the risk of getting stuck with a significant expense should the business fail.
The Drawbacks to Leasing a Car
Leasing isn't without its downsides, though. After all, you don't own the car despite all the payments you make on it unless you decide to buy it for the residual value. Since the residual value is determined at the outset, you can't renegotiate it at the end of the contract if you think it's too high. Plus, since you don't own the car, you can't sell it whenever you want and use the money to fund a new vehicle purchase. Perhaps most frustrating of all is the fact that you never stop making payments when you lease, whereas, when you've paid off a car, you no longer have to make such payments.
For this reason, a regular lessee is apt to pay more money over a lifetime than someone who buys a new car every decade. Moreover, you might be surprised by how much interest you have to pay long-term. Even if the interest per month seems small, it adds up. Another drawback to leasing is that the penalties are steep. For each mile you drive beyond your allotted amount, you may have to pay an extra 10 to 15 cents, although you can negotiate a higher allotment for a higher lease payment. The penalties for excessive wear-and-tear are also high, so you need to keep your car clean and unscathed as much as possible, which might keep you on edge.
Mistakes to Avoid When Leasing a Car
Leasing a car is tricky, so it pays to keep alert for any mistakes you might make while doing it. Perhaps most importantly, you want to get gap insurance. That's the insurance that covers you if your car is totaled or stolen while you're leasing it and the car insurance payment doesn't cover the entire amount on the lease. Ask the lessor to include gap insurance coverage at the outset, or find a lessor who's willing to do so. You don't want to get stuck with a big bill for a car you don't own. Another mistake you might make is to pay too much for a lease. $2,000 is about the most you should spend on a down payment. Sure, a lower down payment means higher monthly payments, but this approach means you don't lose all the money you put down if the car is totaled, since the lessor, not you, get the insurance payment in that situation.
Similarly, you should figure out how many miles you drive each year, so you don't agree to a lower mileage allotment than you need. When leasing, make sure you don't lease past the warranty period as well. If you need to lease for a long time, get an extended warranty.
Leasing is a convenient way to get hold of a car without the high cost and complexity of buying one, as long as you know all the risks and trade-offs. Some lessors even have flexible-lease programs in which you can lease a vehicle for a few months at a time and keep extending the lease for as many periods as you want. For millions of people in the U.S., leasing is the way to go.