Firstly, this is not new information, but it is often ignored by people who disagree, for whatever reason that might be. Perhaps they failed math, or are just free spirits who value the “experience” more than a sound financial plan for their future.
Let’s look at this from a simple mathematical perspective. Cars, whether leased or not are expensive to own and operate. Often, the way you choose to purchase a car is going to determine how expensive it will be to operate. Leasing a car is the most expensive way to drive a vehicle, period.
How does a lease work, and why are the payments so low?
Let’s take a round number example and assume you’re about to BUY a new BMW with a manufacturer suggested retail price of $50,000 on a 5 year (60 month) loan at 3.29% (currently advertised on BMW’s site.) Your payments would be $904.89 per month. That’s a lot of money per month. So how can we make it more affordable? Let’s lease it, right? A low payment encourages you to compromise on your standard of living, often tempting you to lease a car that is worth far more than any car you would ever buy.
A lease payment is calculated based on the depreciation of the vehicle from the MSRP calculated at the time of the lease. So, in our example, if the new BMW is priced at $50,000 and the lease being offered is 36 months in length, the payment is based on the difference between the MSRP and what the manufacturer believes the car will be worth after 36 months (crystal ball anyone?)
Let’s say in 36 months, the value of the car is expected to be approximately $30,000 according to the manufacturer and the current MSRP is $50,000. The difference between the two is $20,000. So, what the dealer will do is offer the use of the car for 36 months by financing the depreciation. In this example, that rounds out to roughly $550.00/month ($20,000 ÷ 36). So you can lease and drive a new car instead of buying a new car and save yourself $350.00 in monthly payments ($904 purchase – $550 lease.) Great deal, right? Wrong.
What Happens at the End of the Lease?
Heh…this is the annoying part. You turn the car in and have nothing to drive. You just rented a car for 36 months with the full responsibility of maintenance (save for a few programs out there that include maintenance) and have nothing to show for it. $20,000 down the drain. Not only that, but if you’ve driven the car more than the lease allows for, or you damaged the vehicle in any way, the residual value will change and you’ll be the one paying the bill. You could get roped into buying the car for its current value, but that value was negotiated 36 months ago, and may not actually be what the car is worth. So, you could end up buying out the car at above market value.
Those who lease are typically habitual leasers. They go throughout life with the justification that driving a new car every two or three years is worth $20,000 every time they experience it. If you’ve ever driven a new car before, you know that the experience of driving “new” ends very quickly. Paying for a vehicle’s depreciation over time isn’t a smart use of your entertainment budget.
Let’s assume that the above individual was able to purchase the very same car but 36 months later for it’s residual value of $30,000, cash, out the door. They then put $550.00 per month into a growth stock mutual fund for 36 months (a total of $19,800) and then leave it alone for 20 years AVERAGING 10% growth.
The result? $127,000. Let’s make that sweeter. Let’s say you continued putting $550.00 per month in the account for not just 36 months, but the entire 20 year term. Your total investment would be $550.00 * 240 which is $132,000, or in terms of habitual leasing, 6 new cars over an 18 year time-frame, and the balance on your account would have grown to $421,000.
As Dave Ramsey says, “hope you like the car.”