Leasing cars in America, while complicated and confusing for many, is a great way to keep car payments low, while keeping up with the rapidly improving technology of the modern era. If you’ve ever shopped around for a lease, you may have found that a $50,000 Lexus leased for $475 a month, while a $50,000 Volvo in the same style leased for $600. And then, when attempting to lease the same two cars the following month, the Lexus might then lease for $500 a month, while the Volvo dropped to $525. Perhaps even more perplexing, is that one dealer offers you a vehicle at one price, while the dealer down the street quotes you the exact same car for $30 a month more. How can that be, and what are the factors that determine those numbers?
The reason the cost changed from one month to the next is that most manufacturers release a new “program” at the start of each month. That program consists of 3 of the most important factors in determining a lease payment: the money factor, the residual value, plus incentives and rebates.
The Money Factor
The money factor is a sly name created by the auto industry for interest paid over a lease period. On the contract, it’s called the “rent charge.” It appears to be a very small number like .00082, and it’s designed to imply that the interest paid over the lease is quite low. This is not always true. To calculate that number in APR terms, multiply the money factor by 2400 which gives the number in percentage form. (ie. .00082 x 2400 = 1.968, or 1.968% APR.)
The Residual Value
The residual value also plays a crucial role in a lease payment. In a lease, you “rent” a car for a set time period, say 36 months. Because the car will still have a long life after your lease ends, you only pay for the depreciation of the car in that period, or for the portion of the car you are using. The residual value is the lender’s guaranteed future value of the car upon lease expiration. It’s the value that resides. This is the beauty of leasing. If the car depreciates at a quicker rate than the bank had originally thought, that is not the problem of the customer. That is the problem of the lender. On the other hand, if the car holds its value better than the lender had anticipated, the customer can take advantage of it by collecting the equity that now exists in the car. The higher the residual value, the smaller piece of the car you will pay for. Some residual values are as low as 40%, while some (rarely) can be as high as 75% or more.
Rebates and Incentives
There are also rebates and incentives that can be added to a car to make it more attractive to lease. A rebate is paid by the manufacturer and passed on to the customer as a cash bonus towards the price of the car. Dealer incentives are also manufacturer paid and are primarily based on current sales trends and inventory. If there appears to be a need to push certain models, the manufacturer will incentivize dealers to help sell them by offering special lease programs, like a special, lowered money factor or high residual or simply cash towards the purchase or lease of a vehicle.
These are the basics of leasing. Next we’ll delve into the factors that determine a great or not so great lease deal!