Merging Into Life: Should You Lease or Buy a Car?

[00:02:54] Chris Hardesty: It does vary. They range from low mileage leases to about 8,000 miles a year to what’s 10,000 and 12,000 miles is also common, but you can negotiate or buy additional miles so that it can fit what your commute is. And then if you exceed that, you’re paying for more miles.

[00:03:16] Zack Klapman: In a larger macro view, are we seeing more people leasing lately than ever or more people buying than ever?

[00:03:24] Chris Hardesty: It’s about 25% of all vehicle financing currently is for leasing. So, of all of that financing, whether for auto loans or for leasing, 25% of them are for leases. And it’s a slight increase over previous years, but not dramatically. But the popularity comes from people wanting a lower monthly payment and wanting to have access to vehicles that have the latest technology.

[00:03:55] Zack Klapman: So let’s talk a little bit about money. What does a lease payment cover compared to a car loan?

[00:04:02] Chris Hardesty: Lease payment covers the vehicle’s projected depreciation during the lease term. As soon as you drive a car off the lot, its value goes down, and the automaker needs to cover for that depreciation. When you initiate a lease, usually you’re paying a down payment, and that will help cover that depreciation. During the lease terms, you’re going to be paying for the interest charges and taxes. Whereas a car loan payment, that loan payment contributes toward you owning the vehicle goes toward the entire purchase price which allows you to build equity in the vehicle, whereas the lease you’re just paying for that depreciation, and that’s pretty much it. On the other hand, you can at the end of the lease term you could purchase the vehicle. So, once you have made all of those depreciation payments, you could purchase the vehicle for that remaining value.

[00:05:01] Zack Klapman: Let’s talk about equity a bit. So why is that such an important thing?

[00:05:05] Chris Hardesty: Well, building equity is important because, when you’re paying off a loan on any asset, you’re going to own it at the end of the term. After you’ve made all the payments, it’s going to be yours. And so, for first-time buyers, that owned vehicle is a valuable asset that they could sell, or they could use as a down payment on their next car. And it kind of gives them a financial head start, if you will, that leasing does not offer.

[00:05:38] Zack Klapman: And they both build your credit, right?

[00:05:40] Chris Hardesty: Yes, yes, they both build your credit, and building credit is especially important for younger folks who are just starting out in the workforce and that sort of thing.

[00:05:50] Zack Klapman: Let’s get into the ownership a little bit. You said that leasing a car is like renting an apartment. So can you expand on that for us?

[00:05:57] Chris Hardesty: Leasing is like renting an apartment in the sense that you are not building equity. You’re paying money to live in your apartment. You’re paying money to drive this car around. But at the end of your lease, whether it’s a yearlong apartment lease or a three-year car lease, you don’t own that car. You don’t own that apartment. A difference is that, with a car, you’re still having to pay for the maintenance. And everything that goes along with car ownership, except you’re not owning. With an apartment, in many cases, you are paying to live there, but as part of that fee, you’re getting the maintenance. You don’t have to worry about fixing the leak in the kitchen sink. You don’t have to worry about the hot water heater breaking, because the apartment complex or the landlord is going to take care of all that for you. When you lease a car, you’re still having to pay for the oil changes. You still need to get new tires. You still need to wash it and keep it clean, and you need to pay for any repairs that happen. So, you can’t compare it to renting, because you’re not making these payments to own it or build any equity, but you’re still having to pay the extra bit with leasing a car to keep it maintained.

[00:07:15] Zack Klapman: If you return it and there’s little bits of damage, do you have to pay to fix those things if there’s like little dings in the doors or if the windshield’s cracked or something?

[00:07:24] Chris Hardesty: In many cases, you do have to pay for that, but it’s just for excessive wear and tear. Often, in a lease, some will be very specific, or they will say we will tolerate three dings that are smaller than a credit card on each, on any, body panel. So, some are very specific like that, others, they leave it kind of open. And that’s one of the cautions that people should have when they’re leasing is to evaluate that criteria for what the excess wear and tear is. Because at the end of the lease, when you go to turn it in, you don’t want to face any repair costs or have them say that, hey, you owe us this much more to take it back because you have not taken care of it.

[00:08:12] Zack Klapman: Some people might think of the whole lease-to-own thing as a middle ground between leasing and just financing and buying. Is that a good idea or is that just complicating something?

[00:08:23] Chris Hardesty: A lease buyout can be a smart move, but only if that residual value is less than the current market value. So, it often ends up being more expensive than financing from the start, because you’ve already paid for that steepest part of the depreciation. In that first year, it loses a significant amount of money. So, it kind of makes it, for me, it makes it more complicated. You’re leasing a car because you want to have the lower payments, and you want to experience a new car with the latest technology, etc., etc. So you’re just adding a whole other financing component and buying that car at the end of the term, forget about the residual value being higher or lower, now you’ve got to go and find a loan for it, and now you’re financing a used car so the interest rate is going to be higher than if you had purchased a new car.

[00:09:20] Zack Klapman: What about used cars? Is that a good alternative for folks?

[00:09:24] Chris Hardesty: Getting a used car can be a wise financial strategy, but you need to compare leasing a new car against buying that late model, a newer used car, because, like I mentioned briefly a minute ago, the interest rates for used cars are often higher than the interest rate for a new car or a new lease, especially a subsidized lease. The lower price of a used car might actually be more expensive in the end because of a higher interest rate than a more expensive new car that comes with a lower interest rate or a new car that you’re leasing at a lower monthly payment.

[00:10:12] Zack Klapman: It sounds like a lot of math. I think there’s probably a lot of websites out there that will help you calculate this stuff, but people should definitely do math.

[00:10:19] Chris Hardesty: Yes, absolutely. And Autotrader has some calculators that will help you with your calculating what you can afford, an affordability calculator. And there are all sorts of rules of thumb that folks can look at to see what portion of my take-home pay should be designated for transportation. And again, those sorts of formulas are just rules of thumb, because everybody is different and everyone’s situation is different.

[00:10:49] Zack Klapman: Yeah, that’s what I did. When I was 26, I bought a new car. I learned a lot of, I’ve learned about depreciation. I learned about all kinds of things, which I know we’ve hit on a bit regarding when someone leases the car depreciates. But let’s say someone wants to plan something for like 10 years. Most leases are not 10 years long. Should they, should someone buying a car think about depreciation at all?

[00:11:11] Chris Hardesty: When buying a car, absolutely. When you buy a car, depreciation is the largest part of ownership, the largest cost of ownership. And it’s kind of hidden. You think about getting your oil changed and getting new tires and all of those sorts of things, but you don’t think about the depreciation. So folks should research and choose cars that have a history of a strong resale value. And you can do that on any number of sites, kbb.com. You can scroll down, you can see the five-year cost of ownership, which shows you the depreciation chart. And you use that to gauge the resale value for these vehicles. One of the biggest pieces of advice that any newcomer to the car buying world should realize is not to go into a car dealership and purchase something based on the price. When you’re buying a car, you don’t want to negotiate the $400 monthly payment. Because the car dealer will help you get that $400 payment, but it might be stretched out for seven years instead of a more reasonable four years or five years.

[00:12:31] Zack Klapman: And I think, something that everyone should hear. Pretty much every new car is going to lose money, at least for a long, long time. As you said, Chris, there are some brands that are known for retaining more of their value, not all their value at all, but more of it. And there are brands where you can look at their depreciation in the first two to five years. It is like a brick dropped off the roof of your house.

[00:12:57] Chris Hardesty: And leasing electric cars. One of the reasons why it can be advantageous for people to lease an EV rather than buy them is the depreciation of EVs is much more significant in part because of the way the technology is improving.

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[00:13:39] You mentioned stretching out loan durations. And this seems like something, have loans grown in terms of how long they are over the last 20 years?

[00:13:51] Chris Hardesty: Oh, absolutely. The rule of thumb was that you would get a car loan for 48 months. Now, only well-established people who have good income and good credit can afford to buy a car with a 48-month long-term. The average length of a car loan now is 72 months. That’s a long time to have a car, especially for cars that depreciate in value, and some will stretch to 84 months. And that is just ridiculous, because it’s going to be a long time before you actually put any equity into that car, because you’re paying for that interest. You’re paying for the depreciation. The average age of a car on the road now is 12.8 years. You’re probably not going to be driving a car for 12.8 years. I could never encourage someone to stretch out a car loan to 84 months, because it’s going to reach a point where you still owe money on this car and it’s not worth that much. And you’re going to be underwater, which means that you owe more on the loan than the vehicle is worth.

[00:15:11] Zack Klapman: Are there any other ways you think people should prepare before going to a dealership, other than having that financial, having that loan set up?

[00:15:19] Chris Hardesty: Well, getting the preapproval is certainly the thing to do, because you don’t necessarily want to let the dealer know how you intend to pay for it. But what you want to negotiate for is a good thing to have in mind when you show up. And you’re not negotiating on the monthly payment, because they can help you meet that, but you will pay in the end. What you want to negotiate for when you’re working with the dealer is what the out-the-door price is. And that would be the price of the vehicle and all of the fees that are involved with it.

[00:15:55] Zack Klapman: Are there any common hidden costs or things in the fine print when in lease agreements?

[00:16:02] Chris Hardesty: Well earlier we talked about the excess wear and tear, so you want to be aware of what the leasing contract says about those so that you don’t have any big surprises at the end. You need to pay attention to the mileage, excess mileage penalties. A lease does have acquisition fees and disposition fees, and those are just costs related to the paperwork at the beginning of acquiring the car. And then the disposition fee is what you pay when you turn it in. And then that can be a few hundred bucks. Insurance for leased cars is often more expensive, because the leasing company will require you to have more coverage and a lower deductible. And both of those factors make your insurance premium higher. The insurance company owns the car, and so they can kind of dictate what sort of liability coverage that they want you to carry on the car.

[00:17:04] Zack Klapman: Let’s talk about maintenance a little bit or warranties more specifically. Is there anything people should pay attention to, especially if we’re looking at new versus certified pre-owned? I mean, if it’s a lease, everything’s covered, right?

[00:17:17] Chris Hardesty: Yeah, most everything is going to be covered, at least your maintenance is not going to be covered. So, you’re still going to be on the hook for that. But if the water heater or water pump breaks, then you’re going to get that fixed at no charge. So, the factory warranty that comes with a car typically lasts for three years or 36,000 miles. So, for a lease, which is often 36 months, everything’s going to be covered for that time period. When you’re buying a new car, and you get to the end of that warranty period, then, you’re going to be on the hook for that water pump that breaks or the window that no longer rolls down or any number of things that can happen with your car. A CPO, which stands for Certified Pre-Owned is a type of used car that has undergone significant evaluation and passed all the criteria set by the auto manufacturer, and it said, ‘hey, this is a top quality used car. And we believe in this car so much that we are going to put this, give you extra warranty coverage on the vehicle,’ ‘and often, it’s a continuation of the factory warranty for the powertrain and so forth. So, it’s having that extra peace of mind of having the factory backing of this used car makes it attractive to many folks.

[00:18:53] Zack Klapman: What is one myth about buying or leasing you wish people would just forget?

[00:18:59] Chris Hardesty: That you can’t negotiate a car deal unless you’re in person. And buying cars online has become kind of a big thing. And you don’t have to go and visit the dealer. You don’t have to sit there in their showroom and sit across the desk from the dealer. You can do a lot of negotiating for buying a car online through email and even phone calls. So, you don’t necessarily have more leverage by going to the dealership. In fact, you might even have more leverage when negotiating because you’re negotiating with this dealer on their website, and this dealer on their website, and this dealer on their website and saying, hey, well, Zack’s dealership is going to give me this offer, or Chris’s dealership is going to give me that offer. So, you do have that kind of leverage when you’re doing stuff online, and a lot of people dismiss online buying, because car dealerships are just a traditional brick and mortar place where you go there, and you talk to the dealer ,and they’re the salesperson and you got a deal. You can do all that stuff online too.

[00:20:18] Zack Klapman: So, when I bought this car, my new car 20 years ago, and a piece of advice I’d received, I want to see if it’s still relevant. I did exactly what you said. I negotiated through email. And it was much better. It was a lower pressure situation for me. I could collect my thoughts and just respond. And I also had another dealership in a different state that sold a similar car, and that was kind of my leverage. I was like, they’re selling it for this. I’m willing to fly there, what can you guys do? And the advice I had received was bring proof of those email conversations and bring proof of this other dealership and the ad and whatnot.

[00:20:52] Chris Hardesty: I think they should absolutely do that and to have that proof, because just like some car dealers might have the reputation of being shady, well, there are many customers who are also shady, and they could show up at the dealership and say, ‘oh, man, it was Zack said, he was going to give me this kind of deal on this car,’ and you haven’t even talked to Zack. So, that puts the dealerships, and dealerships are just like any other business. They’re just trying to give you a product that you can use and enjoy. And they’re not trying to take your money for nothing. So, you shouldn’t take their money for nothing. When you’re any kind of negotiating you do, you should do it in good faith, just like you would expect the dealership to do it and in good faith. So having the proof that you had talked to the other dealership and outlining here is this vehicle. Here’s the VIN, the vehicle identification number. So, we can see that it is this model of vehicle and it has these, it’s this trim level and it has all these features on it. Yeah, that’s certainly something that you should do. And buying out of state is certainly an option for folks. And one thing to remember is that we talked briefly about taxes earlier. Your taxes on a vehicle and registration fees are based on where you register the car. So, if you go to a state that does not charge sales tax, that’s fine and dandy. But if you register a car in your state and it charges sales tax then you’re still going to be paying that sales tax. So, that’s something to remember. Another piece of advice that I would give to people, especially first-time buyers, is to take somebody with you to be kind of your wingman or your reasonable thought, because buying a car is a big deal. It’s you’re spending a lot of money. It’s exciting, but it’s scary. And there’s a lot of information coming at you, and it’s good to have somebody by your side who can help you realize that, hey, this is not, this is not a good deal or make sure you understand what this person is telling you so take somebody with you when you go to sign all the paperwork.

[00:23:11] Zack Klapman: Absolutely, absolutely, absolutely great advice. I really appreciate Chris for coming on the show and breaking down one of the most overwhelming purchasing decisions you can make. Whether you’re leasing your first car or you’re buying your first car and you want to avoid buyer’s remorse, we hope this helped you feel more prepared, because I know it can get really confusing when those big stacks of papers come out, and there’s lots of signatures to make. And if you’re enjoying the show, do us a quick favor, hit that like button, leave a review, and share it with a friend who would like it too. It helps more than you know, and it will keep the good stuff coming your way. Thanks for being part of the ride, and we’ll see you next time on Merging Into Life.

The views and opinions expressed in this podcast do not constitute financial advice and are not necessarily the views of AAA Northeast, AAA, or its affiliates.