Purchase vs. Lease of an Automobile (1992)

Unfortunately, there are no general rules about who should buy and who should lease an automobile. Each situation must be analyzed on a caseby-ease basis. For most individuals, the objective is to obtain a car for the lowest possible aftertax cost while avoiding any unpleasant surprises. PURCHASING Purchasing a car is a straightforward transaction. Ignoring trade-ins, the car's price is known and the buyer either pays cash or makes a down payment and finances the balance. It's advisable for potential buyers to check car loan rates and terms with local lenders and compare them with dealer financing. With many car dealers offering low-rate financing or rebates, potential buyers may better taking rebates and financing the purchase themselves. And it's important to more than just compare monthly payments; the annual percentage rate (APR) on each financing option must be computed. LEASING Leasing a car can be a complicated transaction; sophisticated financial calculations may be required to determine the best option. The first step in car leasing is the same as in buying-shop for the best deal. And just as a car's price and options are negotiable for a purchaser, lease terms also can be negotiated. To make this easier, the sidebar on page 39 defines some key leasing terms. When analyzing a lease transaction, it's best to begin by finding out the car's capitalized cost. This is essentially the amount for which the dealer is selling the leased vehicle. This should compare favorably with the cost of the same car in a cash transaction. The next critical factor is the car's residual value (expected worth when the lease expires). This amount frequently is expressed as a percentage of the car's original price. The residual value should compare favorably with the book values of corresponding used cars when the lease expires. The car's residual value is a key element that will make monthly lease payments less than the corresponding payment to buy the same car. When a car is purchased outright, the buyer pays for the entire vehicle; with a lease, the lessee pays only for depreciation during the lease term, plus an interest equivalent. The greater the vehicle's residual value, the better the lease transaction will be for the lessee. A high residual value is the principal reason why luxury earmakers such as Mercedes Benz can advertise monthly lease payments that seem so low. In a manufacturer-sponsored lease transaction, when the dealer is motivated to do the deal, the car's residual value may be set higher than its historical resale value to reduce lease payments. The remaining data needed to analyze a lease-monthly payment and lease term-are obtained easily; no calculations are required. LEASE EVALUATION Armed with the necessary independent variables, the lease's implicit interest rate (the rate at which the lessor lends money to the lessee) can be calculated. A financial function calculator or computer program likely will be necessary to make the computation. The implicit interest rate should compare favorably with the rate lenders are currently offering on car loans. It's also possible to evaluate the proposed transaction by doing a comparative present-value analysis of buying a car versus leasing. The net present value of a purchased car can be compared to the net present value of future lease payments. Exhibit 1, above, makes such a comparison. EDUCATED CONSUMERS Educated consumers mill find important information in the small print at the bottom of automobile lease advertisements (and hopefully in the lease itself). * Excess mileage charges. Most leases specify a per-mile charge (often $. 10 to $.15) on mileage exceeding the allowance (usually 45,000 to 50,000 miles). This should be compared to the vehicle's estimated use. For frequent drivers, the added cost can often be considerable. …