Lesson 2: Leasing a new Vehicle You may have already noticed that leasing a vehicle is not the same as purchasing a vehicle. When you purchase a vehicle, you own the vehicle once you are done paying back your vehicle loan. When you lease a vehicle, you do not own the vehicle at the end of the lease. Instead, you have just paid for the use of the vehicle. This is why you have a lower monthly payment when you lease a vehicle. Conditions of a Lease Different car dealerships offer different leases that have different conditions. These conditions may include the number of kilometers you may drive each year and the term (number of years) of the lease. If you decide to lease a vehicle, it is important that you understand the conditions of your lease. If you violate the terms of your lease, you may be responsible for paying extra fees for things like: Extra kilometres driven Excessive wear and tear on the vehicle Ending your lease early At the end of the lease, you can return the vehicle or you can purchase the vehicle for its guaranteed residual value. The guaranteed residual value is an estimate of how much the vehicle will be worth after being used for the length of your lease. This value is given to you when you lease the vehicle. Making the Decision to Lease a Vehicle The following are some factors you should consider when trying to decide whether or not it is best to lease a vehicle: 1. Repair costs to the vehicle. a) In the lease option, repairs are usually covered by a warranty offered by the manufacturer. If, at the end of the lease, the vehicle appears to require a number of major repairs, you should probably not purchase the vehicle. Instead, you return the vehicle to the dealer and then buy or lease the next vehicle. b) If you have purchased the vehicle, repairs will be covered by warranty for a similar period of time. However, when the warranty has expired, you are responsible for any repair bills, and you may decide to trade the vehicle or sell it. Page 1 of 13
2. How much do you drive the vehicle? a) If you drive the vehicle more than the amount specified in your lease agreement, you will likely have to pay for the extra kilometres at the end of the lease. These costs can be high. Therefore, if you lease, you must be relatively sure of your driving habits and negotiate a price for the lease that will reflect these habits. b) If you own the vehicle, the number of kilometres you drive does not affect the amount you pay for the vehicle. It may, however, reduce the trade-in value of the vehicle. 3. What are the monthly payments for the vehicle? a) Generally, leasing is more attractive because the down payment and regular monthly payments are less than if you buy the vehicle and have to finance it. However, at the end of the lease, you must return the car to the dealer, which usually means that you now have to buy the car you leased, buy another car, or lease another car. b) If you purchased a vehicle, you must pay for the entire vehicle, but after it is paid you own the vehicle, and can continue to use it as long as you want without making any monthly payments. 4. How often do you change vehicles? a) If you plan to drive a new vehicle every two or three years, leasing is an attractive option. b) If you buy a new car, take proper care of it, and keep it for a number of years or until it is worn out, you will spend a lot less money than if you leased new cars for the same period of time. Leasing a New Vehicle versus Purchasing a New Vehicle Leasing and purchasing loans are two different methods of automobile financing. When you lease a vehicle, you pay a portion of the vehicle s cost. When you purchase a vehicle, you pay the whole price of the vehicle, regardless of how much you use it. Both leasing and purchasing have their own benefits and drawbacks. In order to decide which option is best for you, you need to look at your own personal priorities and financial situation. Generally, buying a vehicle and driving it until it is worn out is the best option from a personal finance point of view. If you can purchase the vehicle without financing, you will save a lot of money on interest. If you are financing the vehicle, then the best option is to be as well informed as you can be about your financing options. For example, it may be to your advantage to make a bank loan rather than to finance the vehicle at the dealership. Page 2 of 13
Overall, a new vehicle is a major purchase. If you wish to purchase a new vehicle, you must research all of your options carefully. The following examples compare the costs of leasing to the costs of purchasing one particular minivan over a five-year period. The first two examples involve leasing the minivan before purchasing it and the last two involve only purchasing it. In order to make the examples less confusing, fees such as the destination charge, documentation fee, the tire tax, and the security deposit are not included. USE THE INFORMATION ON THE 4 EXAMPLES (beginning on the next page) The costs of the minivan from Example 1 through 4 are the following: Example 1 Leasing and purchasing outright at the end of the lease $ Example 2 Leasing and purchasing through financing at the end of the lease $ Example 3 Purchasing outright Example 4 Purchasing it through financing Based on the information in the table from the minivan examples, organize the purchasing options in order from LEAST expensive to MOST expensive: $ $ 1. (least expensive) 2. 3. 4. (most expensive) Page 3 of 13
Example 1: LEASING AND PURCHASING OUTRIGHT AT THE END OF THE LEASE A minivan sells for $28 500 and can be leased for 24 months at $479 per month plus taxes. A down payment of $3 275 is required. The guaranteed residual value of the vehicle is 65% of the sales price. a) Calculate the total monthly leasing payment. b) Calculate the total amount paid by the end of the lease. c) Calculate the total residual value of the minivan, including tax. d) Calculate the total cost of the vehicle if it is purchased outright at the end of the lease. Solution a) Monthly leasing payment = $479 x 1.13 = $541.27 (including taxes). b) The total amount paid by the end of the lease = down payment + monthly leasing payments = $3 275 + ($541.27 x 24) = $3 275 + $12 990.48 = $16 265.48 c) The guaranteed residual value = 6.5% x $28 500 = 0.65 x $28 500 = $18 525 The total guaranteed residual value with taxes = $18 525 x 1.13 = $20 933.25 d) The total cost of the vehicle if it is purchased outright at the end of the lease = down payment + total of all the monthly leasing payments + total guaranteed residual value = $16 265.48 + $20 933.25 = $37 198.73 Page 4 of 13
Example 2: LEASING AND PURCHASING THROUGH FINANCING AT THE END OF THE LEASE The total guaranteed residual value of the minivan in Example 1 is financed at the end of the lease by a three-year car loan at a fixed interest rate of 6%. a) Calculate the monthly payment on the guaranteed residual value. b) Calculate the total of the monthly payments on the guaranteed residual value. c) Calculate the total amount paid for the minivan if the guaranteed residual value is paid through financing. Solution a) The loan required is equal to the guaranteed residual value which from Example 1 is equal to $20 933.25. Using the amortization table, along with the interest rate of 6% and the loan period of 3 years, we find the rate of $30.43 per $1000 of loan. $20 933.25/ 1000 x 30.43 = $637 is the monthly payment b) Since the loan is for three years and there are 12 months in a year, there are a total of 12 x 3 = 36 payments. The total of the monthly payments at the end of three years = $637.00 x 36 = $22 932 c) The total cost of the minivan if it is financed at the end of the lease = down payment + total of all the monthly leasing payments + total guaranteed residual value = $3 275 + $12 990.48 + $22 932 = $39 197.48 Page 5 of 13
Example 3: PURCHASING OUTRIGHT Calculate the total purchase price of a new minivan that sells for $28 500 plus PST and GST. Solution The total purchase price = $28 500 x 1.13 = $32 205. Example 4: PURCHASING IT THROUGH FINANCING The minivan of Example 1 is purchased with financing by a five-year loan at 6%. A down payment of $4000 is required. a) Calculate the monthly finance payment of the minivan. b) Calculate the deferred finance payment of the minivan. Solution a) From Example 3, the total purchase price of the minivan is $32 205. The loan required = $32 205 - $4000 = $28 205. Using the amortization table, along with the interest rate of 6% and the loan period of 5 years, we find the rate of $19.34 per $1000 of loan. $28 205/ 1000 x 19.34 = $545.48 is the monthly payment b) Since the loan is for five years and there are 12 months in a year, there are a total of 12 x 5 = 60 payments. The total amount of payments at the end of five years = $545.48 x 60 = $32 728.80. The deferred payment = total down payment + loan payment = $4 000 + $32 728.80 = $36 728.80 Page 6 of 13
Definitions Residual Value: Depreciation: Interest Rate: Lease Term: When you lease an item, you make monthly payments to cover the depreciation of the item over the duration of the lease, taxes on the amount of the depreciation, and interest on the outstanding balance of the full purchase price. The price of a lease depends on three factors: the residual value, the interest rate offered for the lease, and the length of the lease. Down payments may also affect the lease. Page 7 of 13
Advantages of Leasing Lower monthly payments capitalize by investing the monthly savings Lower monthly payments more affordable in the short term Business owner write off lease payments (if car is proven to be a business tool or need ) Under warranty while being driven (no repair costs, covered by dealership) Shorter commitment period can return the car after the lease is up if you do not like it Can continually drive a new car (subsequently re-enter into new lease agreement) Disadvantages of leasing Penalized for excessive distance/mileage Penalized for excessive wear and tear No equity building More expensive in the long run if purchasing following lease Advantage to Buying a Vehicle No charge for excessive distance/mileage No charge for excessive wear and tear Monthly payments will provide equity Less expensive in the long run if purchasing Purchasing is less restrictive No monthly payments, once paid off Option to personalize/customize the vehicle The car becomes an asset Disadvantage of Purchasing Higher monthly payments Owner assumes repair costs once the warranty expires Stuck with the vehicle if it turns out to be unreliable If you want to sell it, you have to do the work (not just give it back to the dealer like in a lease) Page 8 of 13
Calculating the Total Cost of Leasing a Vehicle Example: The cost of a Toyota Four Runner is $54 000 plus taxes (freight included in this price). The monthly lease payment is $459 plus taxes for a lease term of 36 months. For leasing, a down payment of $4 050 is required. As well, a refundable security deposit of $500 and the first month s payment must be paid when the lease is signed. Leasing this vehicle: 1. Total monthly payment = monthly payment x 1.13 (price + taxes) 2. Total Lease Payment: Down Payment = Monthly Payment x # of Months = Total Lease Payment = 3. Calculate the residual value at the end of the lease if the residual value rate for this type of vehicle is 75% after three years. Residual Value = Cost of Vehicle x Residual Value Rate (then add taxes) 4. If you decide to purchase the vehicle at the end of the lease the total cost would be the Total Lease Payment plus the Residual value. Total Cost of Purchasing Leased Vehicle = Page 9 of 13
Assignment 2: Leasing a Vehicle 1. Carly is looking to lease a 2012 Honda Pilot that sells for $43 090 and leases for $440 plus taxes per month for a lease term of 48 months. A down payment of $3 000 is required. Determine: a) the total monthly payment b) the total amount paid at the end of the lease c) the residual value of the vehicle (residual value rate = 80%) d) the total amount paid for this vehicle if it is purchase at lease end 2. Rob is enjoying the spring weather and feels that he needs to lease a 2008 Mustang Convertible that sells for $30, 249 and leases for $450 plus taxes per month for a lease term of 36 months. No down payment is required. Determine: a) the total monthly payment b) the total amount paid at the end of the lease c) the residual value of the vehicle (residual value rate = 55%) d) the total amount paid for this vehicle if it is purchase at lease end. Page 10 of 13
3. Consider the following options. You can purchase the car now or lease the car for 3 years and then purchase it. Consider a new car with a purchase price of $18 500 plus taxes. GST is 5% and PST is 8%. Option 1: Purchase. There is a down payment of $8000. The monthly payments are $369.03 over 3 years. a) What is the total cost of the car, including taxes? b) What is the total amount to be borrowed? c) What is the monthly payment? d) What is the total amount paid for the car, including the down payment? Option 2: Lease and Purchase. There is no down payment. The lease payment is $325 per month, plus GST and PST. After 3 years, you purchase the car for $7500, plus GST and PST. Determine the following. a) What is the monthly lease payment, including taxes? b) What is the total of the lease payments over the 3-year period? c) What is the total amount paid for the car after the purchase? Page 11 of 13
4. A new car with a purchase price of $46 500 can be either purchased outright or leased and then purchased. There is GST and PST. Consider the following options. Option 1: Purchase. There is a down payment of $12 000. The car is purchased and paid for monthly for 4 years. The monthly payment is $791.21. Determine the following. a) What is the total cost of the car, including taxes? b) What is the total amount to be borrowed? c) What is the monthly payment on the loan? d) What is the total amount paid for the car, including the down payment? Option 2: Lease and Purchase. There is a down payment of $8000. The lease payment is $450 per month, plus GST and PST. After 4 years, the car is purchased for $18 500, plus GST. Determine the following. a) What is the monthly lease payment, including taxes? b) What is the total of the lease payments over the 4-year period? c) What is the total amount paid for the car after purchase, including the down payment? Page 12 of 13
5. A new car with a purchase price of $22 600 can be either purchased outright or leased and then purchased. There is GST and PST. Consider the following options. Option 1: Purchase. There is a down payment of $10 000. The car is purchased and has a monthly payment of $690 for 2 years. Determine the following. a) What is the total cost of the car, including taxes? b) What is the total amount of the car to be financed? c) What is the monthly payment on the loan? d) What is the total amount paid for the car, including the down payment? Option 2: Lease and Purchase. There is a down payment of $5000. The lease payment is $350 per month, plus taxes. After 2 years, the car is purchased for $12 400, plus taxes. Determine the following. a) What is the monthly lease payment, including taxes? b) What is the total of the lease payments over the 2-year period? c) What is the total amount paid for the car after purchase, including the down payment? Page 13 of 13