I got into a debate the other day about leasing vs buying cars. While most people were in the anti-leasing camp, I have to dissent IF (and its a big if) you do it right. By the way, this topic is 100% about finances, not at all about being eco friendly.
Now right off the bat I’ll say a lot of links were shared to “personal finance gurus” like Natalie Bacon and Dave Ramsey. These links were nonsensical at best (Ms Bacon’s main argument against leasing and for buying is because you should accumulate assets that go up in value, though cars do the opposite) and I’ll argue also offer financially poor advice.
Types of Buyers
Now in fairness Ms Bacon does discuss how most people focus on the payment not the total cost – a true statement which I’m going to work with rather than against. However Ms Bacon forgets to focus on opportunity cost, but we’ll come back to that. Her advice is to save up and buy cash (that’s next post) – but for now we’ll look at what most people can do, buy with a loan or lease.
We’re also going to assume the car buyer will keep the car for six years, which is the current national average.
For the sake of my point I’ve picked the 2016 Chevy Equinox LT, a popular midsize SUV which just happens to be being replaced by a new and improved model – making the remaining models a great deal. I think this car is reasonably priced and fits the needs of a variety of buyers.
The Equinox LT has an MSRP of $27,345 but expect a dealer discount of at least $2000 (Truecar is my zip code says $2200). So for the sake of making things clean, lets say a purchase price of $25k.
Buying the Car With a Loan
If you buy the car and finance it, you’ll pay an estimated $414/Mo for 72mo, (zero down, 3℅ interest, 9℅ sales tax).
Guessing the value in six years is certainly tough, but by looking at depreciation tables and KBB values of 2010 Equinoxes, my estimate is in six years with 90000 miles is you can private sale it for about $8000 (we’ll call this the “asset” value).
On other factor to consider with a car over six years is maintenance and repairs. Edmunds puts the car maintenance and repair estimate at $3944 for 5 years. Since this analysis is focused on 6 years, I’m estimating using the 6th year cost about the same as the 3rd year (a modest year for maintenance costs) – we’ll call this a soft estimate of $4500.
Leasing The Car
Leasehackr is an amazing site to learn about leasing and how to score a deal. They happened to post a deal on how to get this Equinox LT for $151/mo (plus tax) and $0 down (plus up front fees). Now their assumption did factor in a $1500 competitive lease discount (you’d need to lease a car from a different manufacturer) there’s also a $1000 discount anyone could get instead. Don’t worry, $500 won’t affect the outcome.
In fairness this lease is 24mo, so we’re assuming in another 24mo you can get a similar deal on a comparable vehicle, though you may also consider getting a 36mo lease which will reduce some of the fees. 10,000 miles is also too low for most drivers, so I’m revising their numbers to 15k miles.
So the downside of the lease is fees, you have to pay DMV/licensing each time, a disposition fee when you return it, etc. What I like to do is add up all the monthly payments plus sales tax, all the fees, then divide by the term, leading to an effective cost of $247/mo
Now here’s where opportunity cost comes in. Assuming you could afford the $414/mo to buy the car, lease it instead for $247/mo then invest the difference. Assuming each month you invest the $167/mo difference at the S&P 500 average return of 7% at the end of 6 years your fund would be worth $15,338**.
Even better for the leaser is maintenance and repairs of a car the first two years are super low – Edmunds estimates just $74 for two years. Multiply that by 3 for the 6 year period and you’ll spend just $222 in maintenance over the same 6 years that the car buyer spends about $4500.
Lease vs Buy – the Short Result
The goal of this comparison was to have the same monthly spend in the lease vs buy comparison – so we can ignore that cost as being the net same. What is important is at the end of 6 years the car owner has a car worth around $8k, give or take. The leaser/investor has a fund worth over $15k**.
If we subtract the maintenance costs from the “asset” value, things get even worse for the car buyer – the leaser/investor ends up with over $11,000 more dollars in their pockets.
Now the caveat with investments is, growth isn’t a straight line. If you were to look at this investment starting in 2003 and ending in 2009, you couldn’t have such great results. Averages are over longer periods than 6 years. The goal here however is to NOT take the money out of the fund in 6 years, keep it growing and keep getting cheap leases.
I’m only looking at this from a viewpoint of personal cars, business vehicles are a whole different matter with taxes.
I’m also NOT a tax attorney, financial planner, etc – just a guy that likes math and critical thinking. Your situation may be different, talk to an expert with an open mind.
Where Leasing Goes Wrong
Leasing has a bad stigma for good reason. The lower monthly payment can let you get more car than you should – so instead of buying/leasing an Chevy Equinox you splurge on a BMW X1 instead. Resist that urge, lease the car you can afford to buy (or live below your means and get a lesser car), not the lease monthly payment you can afford to make.
Leasing is also a complex system of values that are likely unfamiliar – capitalized cost, residual, money factor, etc. Learn how leases work before you show up to negotiate your car – NEVER negotiate monthly payments, you should know the value of each factor affecting your transaction. If a dealer won’t play ball, walk away and meet with another dealer.
Not All Cars Lease the Same
So a few people have pointed out car X doesn’t work out this way! Some cars lease better than others. If you care about cost I think the right philosophy is to pick what you need in a car and then find the right deal. The reality is most new cars are pretty nice, so if you want a Camry but the Optima costs $100/mo less – get the Optima.