Should I lease or buy my car?

Looking for a new set of wheels and wondering if leasing would be better than buying?

The main appeal of a lease is straightforward: drive a new make and model and have a monthly payment that may be lower than with a purchase. However, there are other factors to consider. Understanding how leases work and which situations fit them best can lead to a smart choice.

Lease basics

When leasing a car or truck, you're paying someone else for the privilege of driving it for a set amount of time. Twenty-four and 36 months are the most common terms, but there are longer and shorter options, too.

During the span you negotiate, you'll drive the vehicle a permitted number of miles — between 10,000 and 15,000 per year. If you want a higher mileage cap, you'll need to make a higher monthly payment.

When leasing a car, you don't escape the financial impact of depreciation. Your payments account for the anticipated drop in the car's value during the lease.

You'll be responsible for keeping the car in good condition. If you turn it in with excessive wear and tear, you'll receive the bill for it. You'll need to plan appropriately for potential expenses at the end of your lease.

Although most leases are for new vehicles, it's possible to lease used ones, too. But you may have to look a little harder. Lease programs may be limited for used cars. Typically, they will be limited to makes and models that are one to two years older than the current generation.

Leasing versus buying

Replacing your car every two or three years isn't the most cost effective way of managing your transportation needs. If you're comfortable keeping your ride for several years, ownership almost always will cost less. You'll own a paid off car, giving you more breathing room in your monthly cash flow and freeing income for other financial goals like retirement, education and debt payoff. If you're interested in buying for the long term be sure and check out the article, When is the best time to buy a car?

Besides the lower monthly payment, leasing does have its advantages.

• You can expect to have a lower up-front cost.
• Basic maintenance, such as oil changes, is part of some leases.
• It relieves you from having to figure out what to do with a car you own when you're ready to move on. That means no haggling with a new car dealer over the trade-in value or putting in time and effort to sell it on your own.
• Although you won't build equity to apply to your next vehicle acquisition, leasing helps avoid the possibility of going “upside down.” That means you owe more on the car than it's worth.

Key elements of a lease

Since provisions and terminology differ depending on the lease, here are some key elements of a lease.

Vehicle value or "sale price"

Even though you're not buying, this number drives the calculation of your lease payment. It should be one of your negotiation points for getting a car.

Residual value

This is how much the vehicle is expected to be worth at the end of the lease. In part, your payment compensates the leasing company for the anticipated depreciation. This also sets the price at which you could buy the vehicle at the end of the lease if it provides that option.

Money factor

Used in calculating your payment, this is like an interest rate. As with interest rates on car loans, your credit score heavily influences money factors and they're usually higher for used cars.

To judge a money factor against market interest rates, convert it to an annual percentage rate (APR) by multiplying by 2,400. For example, a money factor of 0.0015 equates to a 3.6% APR.

Many dealers may not talk heavily about the money factor they're using or clearly present it in the lease agreement. You should expect a vehicle that holds its value better to have a lower money factor because the residual vehicle value is higher.

Having good credit can incentivize the dealer to look at a lower money factor as well. Don't be shy. Ask what money factor they're using and see if they'll go lower.

Down payment

You may not have to put money down, but if you do, it lowers your monthly payment. You can achieve the same effect by trading in your current vehicle.

Allotted miles

This is the maximum distance you're allowed to drive the vehicle. It's usually stated as a per-year limit. The greater your limit, the higher your monthly payment will be.

Security deposit

Due at closing, this is money that could be partially or fully owed if you return the vehicle with excessive wear and tear or go past your allotted miles. Commonly, it's calculated by rounding up the monthly payment to the next $50 increment. So a lease with a $309 payment would demand a $350 security deposit.

Acquisition fee

This may be added to the price of the vehicle and factored into the lease, or it may be due when signing the lease.

Over-mileage charge

Somewhere between 10 and 25 cents a mile, it's what you'll pay for exceeding your allotted miles.

Disposition fee

Typically, it's a few hundred dollars the leasing company charges to account for the cost of preparing your vehicle for sale at the end of the lease.