All About Leasing
| MacPhee Leasing | Lease Info Request | About Leasing | Leasing Terms and FAQs |
Should I Lease a Car?
The decision to lease a car should be based on the financial attractiveness of the lease compared to borrowing the funds to buy the same car. With a lease, ownership of the car rests with the leasing company, the lessor, which enters into a contract with the person leasing the car, the lessee, for use of the car over the term of the lease. Financially, the size of a lease payment results from the interest rate of the lease and the principal to be repaid over the lease term. Evaluation of the attractiveness of a lease is much more than a simple assessment of the proposed payment. Leases vary dramatically in their assumptions, conditions and buyout privileges, which determine economic benefits at the end of the lease term.
The major legal and financial difference between leasing and buying is the ownership of the car. With a purchase, the ownership of the car remains with the purchaser, although financing might be registered against the car as collateral for a loan. The purchaser owns the car, but agrees to "secure" the car loan with the car. When the loan is repaid, the purchaser owns the car. If the purchaser fails to pay the loan as agreed, the lender has the legal right to seize the car and sell it and keep the proceeds.
With a lease, the leasing company owns the car. The leasing company or "lessor" contracts with a user or "lessee" to use the car for a lease payment over the term of the lease, subject to certain conditions. At the end of the lease, the leasing company owns the car. The lessee might or might not have the right to buy the car at this point.
The repayment or "amortization" of principal is the most important difference between a loan and a lease. A loan must repay all of its principal over its life. A lease, however, only needs to pay back sufficient principal to equal the value of the car at the end of the lease. The value of a car at the end of a lease is called the "residual value". This value is the key factor in deriving the amount of the lease payment.
Forgetting about interest rates for a moment, let's consider the purchase and finance of a $30,000 car. With a loan, we would borrow the $30,000 and then repay the principal over the term of the loan. With a 3 year loan, we would pay $10,000 per year for three years. Let's now contrast this to a 3 year lease. The leasing company looks at the car and projects how much it thinks it will be worth in 3 years. Let's assume the car will be worth $15,000 at the end of the 3 year term. This means the leasing company could sell the car for $15,000 when the car "comes off lease". The leasing company, the owner of the car, only has to repay $15,000 in principal since it assumes a sale value for the car of $15,000 at the end to the lease term. This means that they only have to provide for $5,000 per year in principal repayment over the lease term.
We can now see why lease payments are usually very much lower than loan payments since they repay far less principal over the same term. In our example, the loan repaid $10,000 per year in principal where the lease only repaid $5,000 per year due to the expectation of $15,000 in "residual value". We can also see why there are mileage restrictions imbedded into leases since high mileage cars are worth less and will reduce the eventual sale proceeds to the lease company. If the lease company is expecting $15,000 in residual value and high mileage has reduced the realizable sale price to $10,000, the leasing company would be out $5,000!
Buyout clauses on leases are also determined by the mathematics of amortization. If the leasing company projects that the car will be worth $15,000 at the end of the lease, they clearly won't set the buyout price at $10,000 and lose money. They will set the buyout price above the outstanding principal balance at any point, the higher the better from their point of view.
As for a loan, interest rates have a major effect on the cost of a lease financing. Since the outstanding principal balance is paid after the interest is calculated, higher interest rates result in higher lease payments. Think of the example of a $30,000 car lease. Simplifying things to annual payments, there would be a $3,000 interest payment after the first year with an interest rate of 10% and $1,500 with an interest rate of 5%. This would make a total payment of $8,000 at 10% ($3,000 interest plus $5,000 principal) compared to $6,500 ($1,500 interest plus $5,000 principal) combining the interest payments with the $5,000 principal payment.
The interest rates charged on leases vary with the leasing companies' costs of financing. Most automobile dealers have access to the manufacturers "captive" (in-house) leasing subsidiaries like General Motors Acceptance Corporation (GMAC) and Ford Motor Credit Corporation (FMCC). The dealer sells the car to the leasing company which then leases it to the customer. These "auto finance" companies borrow money in the capital markets to finance their leasing portfolios. This means that leasing rates move up and down with interest rates in the bond market, actually tracking similar term bonds quite closely. In Canada, the banks have been restricted from financing leases although they are lobbying the government strenuously to allow them into this lucrative business.
When is it a good idea to lease a car? Your motivation for leasing a car is important to the decision. If you like to change cars frequently, it's probably better to lay the depreciation/ market value risk off to the leasing company. Will the car be tax deductible? A lease allows the full deduction of principal, which makes for a higher payment and higher tax deduction.As in all things financial, it pays to shop around. A lower dealer price means a lower lease payment. Take a look at the purchase price for the car and then compare between dealers on this basis. Compare between a lease and an outright purchase. The interest rate is important, so ask the dealer for the interest rate "implicit" in the lease calculation and compare this to one from another dealer or financial institution.
Above all, remember that cash flow is king. As Uncle Pipeline would say, "lower payments do not a better financial decision make".
Advantages of Leasing
Leasing is simply a different method of financing a vehicle in comparison to the traditional loan. Leasing provides the lessor the ability to drive a vehicle at a lower monthly cost, providing the ability to save ones budget for other items.
Tax Savings with a Lease versus a Loan
With leasing, taxes are collected on the monthly lease payment over the term of the lease. With a typical car loan, all taxes on the vehicle are paid up front. As a result, you end up paying interest on this tax amount. If at the end of the lease term, you chose to take advantage of the residual and buy out the vehicle, taxes would still be owed on the residual / buyout portion.
Pay Only For What You Use
A lease is based on the anticipated use of the vehicle over a given time period. This time period is measured in months, ranging from 6 to 60 months. With a traditional loan, the vehicle is written down to a zero balance, with terms ranging all the way to eight (8) years / 96 months in some cases. Leasing, in contrast, places a value on the vehicle that reflects the expected usage. If an individual normally likes to drive a different vehicle every three years, a 36 month lease would allow them to pay only for the usage desired, then lease a new vehicle. If this same individual financed a vehicle over a 72 month period on a loan, they would be left in an unenviable position of losing money by trading the vehicle after 36 months. Because you only pay for the portion of the vehicle that you use when leasing, lease payments can be much lower per month than loan payments, allowing you to drive a more expensive, better equipped car for the same payment as a traditional loan.
Closed-End Versus Open-End Leases
There are two basic types of leases, closed-end leases and open-end leases. Closed end or "walk away" leases enable you to "walk away" at the end of a lease with no further obligation, provided that the car is not damaged, has not been subject to excess wear and tear, and kilometer restrictions have not been exceeded. With a closed-end lease, the leasing company guarantees the residual or end value of the vehicle. An open-end or "no kilometer restrictions" lease allows you to lease a vehicle without any kilometer restrictions, because you guarantee the residual or end-value of the vehicle. If you are a high mileage driver, MacPhee Leasing has the ability to work with you to determine a reasonable end-value based on your expected usage.
Equity and Ownership
Many customers feel they would rather finance a vehicle in the traditional way because they would "rather own it then rent it." However, with a traditional loan, the bank or finance company who holds the lien on the vehicle actually owns it until it is paid off. The only difference then in terms of ownership with leasing versus traditional financing is that the name of the leasing company or lien holder would appear on the vehicle registration and permit.
With a lease, you normally have no equity in the vehicle when the lease term is completed. With a bank loan, you build equity over the term of the loan. However, even though you build equity, the dollars spent to own the car would be much greater than its value. Even though it is an asset, it is a constantly depreciating asset. Most people wouldn't consider the idea of buying a $200,000 property that they are told would be worth $50,000 in five years, but those same people would buy a $20,000 vehicle that they are told would be worth $5,000 in five years. BUY WHAT APPRECIATES, RENT OR LEASE WHAT DEPRECIATES.
New or Pre-owned vehicles
MacPhee Leasing offers leases on any make and model of new or pre-owned vehicle. Our expert leasing team has connections to a vast network of dealerships, and have the experience and resources to source the vehicle that's right for you and your budget.
Avoids Risks of Ownership:
It is use, not ownership, of a vehicle that provides benefits. Certain financing programs allow you to reap the benefits of the latest vehicles, without taking the risks associated with ownership such as obsolescence and debt burdens.
Low Monthly Payments:
Leasing low monthly payments allow you to overcome budget constraints you may face. Fixed monthly payment amounts also improve your budgeting and forecasting capabilities thereby improving your control over cash flow.
Complete Financing:
Unlike banks that will finance only the vehicle cost, leasing allows you to include additional costs such as valuable warranties, rust protection packages or certified accessories.
Little or No Up-Front Cash Commitment:
MacPhee Leasing may allow you the flexibility to obtain a vehicle without a large up-front cash commitment, short of the standard first monthly payment and government fees. The amount due is dependant on a number of factors, including vehicle make and model as well as your credit history.
Conserves Capital:
By requiring little or no cash up-front, your cash is available to be invested, used for other needs or saved for emergencies.
Hedge Against Inflation:
Financing allows you to purchase your new vehicle today and repay with tomorrow's less valuable dollars. In other words, the payments remained fixed despite inflation.
Tax and Accounting Benefits:
Certain leasing programs allow you to keep the asset off your balance sheet (that is, treat the vehicle as a tax deductible operating expense rather than a capital expenditure). Unlike obtaining a vehicle with an outright purchase, off balance sheet financing does not increase the company's debt/equity ratio, which can decrease your borrowing capacity.
Other leasing programs require capitalizing the equipment on the company's balance sheet. In these cases, you receive tax benefits of ownership such as interest and depreciation deductions.
Your tax advisor can best consult you on the leasing option that is most beneficial to your needs.
