February 16, 2017. By Olga Okaty:
With car prices continually on the rise and integration of new features further boosting sticker prices, many drivers are wondering whether leasing a new vehicle is a better alternative to buying or financing one.
While some prefer to simply purchase a car outright with cash (thereby avoiding extra monthly expenses), such a large financial outlay is not always a possibility for those trying to fund multiple savings goals and balance competing financial priorities. Moreover, a steady low interest rate environment has enabled many dealers to offer extremely low APR financing, making leasing or financing a vehicle much more attractive when liquidity and cash flow are a concern.
Whether leasing or financing will make the most sense will depend on a number of factors, including:
- The final negotiated sales price of the vehicle
- Total miles driven per year
- How much wear and tear (including possible cosmetic damage) the car will incur
- How and for how long you plan on using the vehicle (lifestyle considerations)
Benefits and Drawbacks of Leasing a Car:
Leasing a car is essentially equivalent to renting it for a fixed term (generally 2 or 3 years), for a fixed monthly payment. Once the lease ends, you may trade in the car for a new lease or purchase a new car. (See Leasing Basics 101)
While leasing generally ends up being more expensive than financing (given the various surcharges and penalties potentially involved when the lease ends), leasing can be more economical in the short-term as it will typically require a lower initial cash outlay and lower monthly payments. This can be a significant benefit if you truly have your heart set on a new car but are on a tight budget and cannot afford a large car payment.
Additionally, if yours is a “maintenance lease” and the car is under warranty, the dealership will handle all routine maintenance and repairs, and you are unlikely to incur any major out of pocket expenses which could otherwise be an additional strain on cash flow for those on a tight budget. Lastly, some lease deals don’t require any down payment at all, making it possible for a driver to enjoy a newer and higher quality car for a lower monthly payment.
However, leasing can also be accompanied by high potential costs. One of the biggest drawbacks of leasing is the mileage restriction, which specifies an annual limit on the miles driven and imposes a per-mile surcharge if this limit is exceeded. Typical mileage limits range from 9,000 to 15,000 miles per year. If you have a long commute or need to drive long distances even just every once in a while, perhaps to visit family or attend an event out of state, you can easily rack on the miles and face hefty surcharges.
Another disadvantage of leasing is the potential final costs and penalty fees associated with wear and tear (including cosmetic damage) for which you may be on the hook when the lease ends. Feeling pressured to keep your car looking like new may not only contribute additional stress, but may present a significant lifestyle constraint. Keeping your vehicle in immaculate condition will likely be especially difficult for those with children or pets, as well as those living in highly populated urban areas where minor dings and dents are all too common with so many vehicles vying for limited parking spots and navigating through narrow streets.
Lastly, if for any reason you wish to terminate your lease early, you could incur substantial additional fees or even be required to make the remaining payments regardless of turning the car in.
Benefits and Drawbacks of Buying/Financing a Car:
One of the biggest advantages of financing a car is that once you’ve paid off the loan, it’s yours to keep and use as you please. (See Financing Basics 101) If you’ve kept your car in good shape, you will likely be able to drive it for several more years without needing any major repairs or incurring a new cycle of car payments, or you can sell it and recover some of the equity you’ve built; a large profit on the sale may be unlikely, however the vehicle will still have some residual value that you are likely to recapture, despite depreciation.
Another benefit of financing a vehicle is that you will retain more control over the timing and extent of maintenance and repairs, investing only in those that you deem necessary. By contrast, the frequent maintenance required on a lease may be an inconvenient commitment to uphold.
One drawback of financing is that at some point, the repairs and maintenance costs for an aging vehicle will greatly escalate, and once the warranty runs out, covering these out of pocket costs may make owning the vehicle more expensive in the long-run.
Another drawback to is the duration of the car loan, which may extend out as much as 7 years in order to make the monthly payments affordable. Unless you plan to keep the car for a very long time, stretching out payments (and paying interest) over such a long term on a depreciating asset can put you in a bind if you owe money on a vehicle that is worth less in trade-in or resale value, should you decide to sell it.
Lastly, the down payment required to finance is typically larger than one needed to lease (in order to keep monthly payments affordable), which can be a hurdle for many buyers, especially for luxury vehicles.
Both leasing and financing have their benefits and drawbacks, and deciding which is the best option for you will ultimately depend on how you foresee utilizing the vehicle, for how long, and within what budget. If you intend to drive infrequently and prefer a new car with all the latest features, a lease may be the way to go. Just be aware of the myriad of penalty surcharges that may be imposed, and take care to avoid and mitigate these risks accordingly. If, on the other hand, you plan to own a car for the long-term, and would prefer more flexibility and control in how it is used and maintained, financing or buying a new vehicle may be the best route.
If savings are paramount and cash flow constrained, a used car purchase may be worth considering as well, as it will likely be less expensive than financing or leasing a brand new vehicle over the long-term. Many certified pre-owned vehicles are offered at substantial discounts with relatively little wear and tear and minimal mileage accrued.