Avoiding the pitfalls of leasing a new car
As auto prices and financing costs increase, auto leases, rather than purchases, have been more actively advertised and marketed by the auto industry. Leasing a vehicle is not simply a 'different' way to buy a vehicle - leasing a vehicle means that you are renting the vehicle long-term with specific obligations, benefits and liabilities contained in the lease agreement.
Lease terms are advertised because the low down payment and comparatively low monthly payments make new vehicles affordable but not necessarily the best or most cost effective option.
Before you lease a vehicle, you need to determine if leasing is right for you. Before going car shopping, you should talk to various lenders for an explanation of the differences, including the costs and benefits of both leasing and purchasing the vehicle you select.
Laws Regulating LeasingAuto leases for personal, family or household purposes that extend for a minimum of four months and that do not exceed $25,000 must comply with Regulation M, the federal Consumer Leasing Act (15 U.S.C. 1667), and the state law, Chapter 63.10 of the Revised Code of Washington. These laws require specific disclosures in lease advertisements and contracts. Information that you should know includes the vehicle's capitalized cost, (the value of the vehicle that is set at the beginning of the lease) and the interest equivalent (also known as the money factor or lease financing rate). Effective January 1, 1996, Washington law requires written disclosure of capitalized costs, accounting for the trade-in value, down payment and rebates on all consumer auto leases, even those which exceed $25,000.
Know All TermsLease advertising usually promotes a low down payment and low monthly payments, but may not include all the terms and conditions that you need to know and understand before you start making decisions. Special lease terms including low down payments or the advertised very low monthly payments may only be available on one certain model; there may be other requirements including having to pay a large down payment (capitalized cost reduction) in order to get the low payments.
Read CarefullyYou should read advertising carefully to determine whether there are restrictions on the offer. If a salesperson immediately tries to divert your attention to another plan or a different vehicle before you have had a chance to fully consider the advertised offer and vehicle, be cautious. If you are not clear on the terms in an advertisement, call the dealer to get your questions answered before going into the dealership.
Lease or PurchaseSome lease advertising can be easily confused with terms that advertise the purchase of a vehicle. Disclosure that it is an offer to lease may be inconspicuous or absent in the advertisement. The dealer must disclose the fact that the offer is for a lease, and whether you would have an option to purchase the vehicle at the end of the lease.
Costs of LeasingThe initial payment on a lease can be less than the down payment required to buy the same vehicle. When you lease a car, you are really paying rent for its use. However, costs during the time you have the car may turn out to be about the same under a lease as buying on credit.
Know the DifferenceThe basic difference between leasing and purchase is that at the end of the lease you will not own the vehicle unless you exercise the purchase option. To use the purchase option you will pay an additional amount at the end of the lease which is called the residual value. The residual value can be a very substantial portion of the value of the vehicle.
By law, the residual value, or the method for calculating the amount, must be disclosed before you sign a lease. This residual value for the option to purchase at the end of the lease may be less or more than the total of all the previous lease payments; the residual value may be more or less than the vehicle is worth. If you do not want the vehicle you will not be required to buy it - you just turn it in according to the terms of the lease.
How to CompareIf you want to eventually own a vehicle, you can do a simple comparison by adding the total of all lease payments, including the residual value, and comparing it to the total cost of buying outright, That should help you determine which best suits your needs. This kind of comparison will not be a complete financial analysis but will give you a better idea of the choice of terms. (See Lease/Purchase Comparison worksheet).
"Closed-end" LeasesThese are the most common. With a closed-end lease you have no further obligations at the end of the lease except for excess mileage or wear-and-tear charges.
"Open Ended" LeasesThe less common open-ended lease will obligate you to pay an "end-of-lease" payment if the "estimated residual value" of the vehicle is higher than the actual value of the vehicle at the end of the lease.
Purchase OptionThe lease terms may give you the right to purchase the car at the end of the lease. If a lease includes the purchase option, the lessor must disclose what the purchase price ("residual value") will be before the lease is signed. At the end of the lease, if you are considering purchasing the vehicle, check the market value of the car in used vehicle ads and in price guides such as the Kelley Blue Book and National Auto Dealer publications in order to compare the market value to the residual value in the lease contract. If the residual value is significantly lower you get a good deal. If it is higher you can decline to exercise your purchase option or try to negotiate a price that is as close as possible to the vehicle's wholesale value.
Calculate your CostsThe "estimated residual value" is the predicted estimate of what the vehicle's value will be at the end of the lease as determined when the lease is signed. The lessor will appraise or sell the car at the end of the lease and if the appraised value or sale price exceeds the "estimated residual value" you owe nothing or you may be entitled to a refund of the excess. However, if the appraised value or sale price is less than the "estimated residual value" you will be required to pay the difference. The amount that you can be required to pay may be limited to three times the monthly lease payment if the lease is covered by U.S.C. § 1667 (b) (a), the Consumer Lease Act. If the total lease obligation is more than $25,000, it is not covered.
- Leases for terms longer than four years.
- Leases requiring substantial security deposits and up-front money for down payments.
- Leases which have additional charges for exceeding a low mileage allowance (12,000 miles a year or less).
- Leases with significant end-of-lease "disposition" or "termination" fees.
- Leases which require you to purchase extra products or services such as vehicle protection packages, credit life and disability insurance, service contracts, etc.
You should ask for a copy of the lease agreement to read before you sign it. All promises should be in writing. You should understand and agree to all terms before signing the contract. Once a contract is signed and all the pre-conditions are met the deal is binding.
There is no 3 day right of cancellation when buying or leasing a vehicle!
Up Front CostsAt the beginning of the lease you generally pay a security deposit and the first, and possibly last, monthly lease payment. You may also have to pay title and license fees (state use taxes are added to the monthly payment) and you may have to pay a "capitalized cost reduction," which is an advance payment that resembles the down payment for a purchase contract.
Trade-insYou may be able to trade a vehicle in or use a manufacturer rebate (if one is offered) to apply toward the payments due at the beginning of the lease which may reduce your monthly payment. If you owe more money on your trade-in than it is worth, ask how that will be reflected in the transaction.
You should independently determine the trade-in value before you begin negotiating a lease. It may not be to your advantage to rely solely on the dealership which is trying to lease or sell a vehicle to you to determine your trade-in vehicle's value. You should confirm that the agreed value of your trade-in is accurately accounted for in satisfying inception payments and/or reducing the capitalized cost (and thus your monthly payment).
Know Your CostsYou should insist on disclosure in writing of the capitalized cost (value of the vehicle upon which the lease is based) and the lease financing rate (also known as the interest equivalent or money factor) which are used to calculate the lease payment and the total cost of the lease.
You should also insist on a full accounting of rebates, down payment, and trade-in value.
Negotiate!Capitalized cost and lease financing rate are negotiable unless there are eligibility restrictions (in which case you may want to consider a different lease source for different terms). Residual value is not generally negotiable.
Effective January 1, 1996, the law in Washington requires written disclosure of capitalized costs and accountability for trade-in value, down payment and rebates on all consumer auto leases.
Factory RebatesLeased vehicles do qualify for applicable factory rebates unless the lease financing rate has been lowered in exchange for the rebate due to a special promotion. Be sure to ask whether you will be receiving the rebate or a special lease financing rate; insist on being shown exactly how the rebate or special financing rate will be applied to your lease.
Other PaymentsIn addition to monthly lease payments it is likely that you will be required to pay for non-warranty repairs and maintenance; these are common lease terms.
The lease must disclose who is responsible for repair and maintenance and whether the vehicle has a new car warranty. If the vehicle has a warranty, you will be required to have routine maintenance done in order to keep the warranty in effect.Penalties for late payments and purchase option administrative fees (if any) must also be disclosed in the lease.
Early terminationEarly termination can be very expensive! You may be responsible for substantial penalties or all payments under the lease. You will not be able to simply return the car and stop making payments. Read the early termination clause thoroughly and make certain that you understand it. Before you sign a lease agreement consider carefully what it may mean to you in the future.
Termination CostsIf you have an "open-end lease" you may be responsible for an "end-of-lease payment". This means that if the "estimated residual value" in the lease is higher than the appraised price (or re-sale price) you will owe an additional lump sum payment due either when you turn the vehicle in or buy it. You may receive a refund of part of your payments if the estimated residual value turns out to be lower than the appraised value (see "Types of Leases").
There are additional costs which you may have to pay at the end of either 'closed-end' or 'open-end' leases:
Excess Mileage Charges - If you exceed the mileage limit on a closed-end lease, you must pay excess mileage charges according to the formula disclosed in your lease. Open-end leases typically do not have a mileage limit.
Default - If you fail to make a lease payment you may lose your security deposit and may be responsible for all other payments due under the lease. Additional costs for defaulting on payments can include the lessor's legal fees and costs for repossessing the vehicle.
Excess Wear-and-Tear - The lease terms may include charges for wear or damage to the vehicle which exceeds "normal wear-and-tear." Defining "normal" wear-and-tear is difficult and determining if excess wear-and-tear has occurred is highly subjective. You should try to get as much information as you can about what would be considered excess wear-and-tear and how much it might cost you.
Vehicle Preparation or Disposition Charge- You may be charged for the cost of preparing the car for re-sale (i.e. cleaning, detailing etc.).
Early Termination Charges- If you terminate the lease before the end of its term, under the lease you may be required to pay significant penalties including all lease payments still owing. You should read the "Early Termination" clause in the lease thoroughly.
"Lease Options"Verify that the options described in your lease agreement are actually on your vehicle. A problem can arise upon default, early termination or at the end of the lease term, because you may be liable for more money than if the vehicle's options were described accurately. Therefore, you should carefully check the financing documents to make sure the vehicles's description matches the lease document.
Beware of "Extras"Be cautious about adding extras such as service contracts, credit/life insurance, etc. Consider carefully which of these extras are necessary and worth the cost.
InsuranceIf the lessor provides insurance, you must be told the type, amount of coverage, and its cost to you, if any. If the lessor does not provide insurance, you must be told the type and amount of insurance you must obtain to comply with the requirements of the lease.
Consider "Gap" InsuranceYou may want to consider purchasing "gap" insurance - it may even be included in the lease. Gap insurance covers the difference between the value of the car and what you owe on the lease in case the car is stolen or severely damaged. As with all insurance, comparison shop with several insurers, including your own insurance agent, to find the best rate and coverage.
Excise or Use Tax ExemptionWashington state imposes an excise tax (commonly known as "sales" tax) on purchases and an equivalent use tax on leases. Under state law, the sales/use tax on the stated value of a trade-in is deducted from the tax that would be assessed on the total price or monthly lease payment of the new vehicle. Use tax on a lease is paid one month at a time on the amount of the monthly lease payment. Washington state provides for the sales tax exemption for a trade-in to be credited on the lease to the use tax on monthly payments. The lease contract should indicate in which months the use tax is excluded and when the payment will increase when the sales tax exemption is exhausted.
Comparing LeasesThoroughly review and question any lease versus purchase comparisons offered by a dealer. Confusing or misleading comparisons can include items like an unreasonably high interest rate on a purchase (to make the lease appear more attractive). You should make your own comparisons in order to feel confident that you are making the best choice that is available. A worksheet is included in this brochure which will assist you when comparing a lease or purchase offers. You may also want to consult with various lenders/lessors.
If the dealer or lessor refuses to give you the information to fill in the comparison work sheet or tells you the information is not available, you may want to consider doing business somewhere else.
New vehicles (and certain used vehicles) which are leased and originally registered in this state are covered under the Washington State Motor Vehicle Lemon Law the same as a purchased vehicle. For more information about the Lemon Law (Chapter 19.86 RCW), call the Lemon Law Administration in the Attorney General's Office at 1 (800) 541-8898 (toll free).
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