How Does Leasing a Car Work? Mistakes to Avoid
In today’s world of modern cars, you’re crazy if you want to buy a new vehicle. Sure, that new BMW 3-series may look sexy, and you can imagine yourself cruising behind the wheel as girls give you a sly grin from the sidewalk.
Driving around town in your new car is fun until it starts to hit its out-of-plan maintenance cycle. Repairs on modern vehicles that have more than 80,000 miles on them will end up bleeding your bank account dry. Replacing a fuel pump could end up costing you hundreds, if not thousands of dollars for original parts.
Buying a new car is overrated. If you purchase a new vehicle today, pay it off for five years, and then sell it privately, you’ll end up losing thousands of dollars. Unless you’re a fan of old muscle cars or classics, there’s no reason to be purchasing a new vehicle.
A car is an ongoing expense, and you’ll need to account for your transportation costs in your monthly budget, for the rest of your life. So, why would you want to own liabilities when you can lease your car instead?
Leasing is an attractive alternative to buying a new car. You can change your ride every few years, without worrying about taking a financial hit when you sell the vehicle. With this fact in mind, it’s no wonder that more than one-third of the new car market accounts for leases instead of sales.
The average cost of a car is $36,000, with a monthly payment of $554 for 6-years. Taking a lease can significantly lower your monthly payments, with the average lease cost being a monthly payment of $466.
However, leasing your car is not without financial risk. If you don’t have a clue what you’re doing when assessing a lease, then an unethical dealer might decide to take you for a ride.
Here are the common mistakes people make when leasing a car. Read through them and make sure it doesn’t happen to you when you’re negotiating with a dealer.
Making A High Upfront Payment
You’ve probably seen the ads online and on TV that promote low monthly leasing costs on premium-brand vehicles. However, the reality is that you’ll need to put down a substantial down payment to receive this monthly lease fee.
Your down payment covers a portion of the new lease in advance, but what happens if you wreck the car in the first few months, or it’s stolen? Your insurance company would settle the outstanding lease costs with the dealer or lender, but you would likely never see your upfront payment refunded.
As a result, you have no car, and no down payment to put on a new vehicle. Experts recommend that you never put down more than $2,500 as the upfront payment when signing a lease. In some cases, you might be able to get away with paying nothing down, but it’s a rare occurrence.
If you make no upfront payment on the lease, your monthly leasing fee will be higher. However, you don’t have to worry about the upfront payment killing your cash flow. If your total the car or it’s stolen, you don’t have to concern yourself with trying to reclaim your deposit.
Not Negotiating the Price
When you arrive on a car lot and check out the sticker prices on the vehicles on offer, it’s easy to think that your leasing costs will relate to the sticker price. However, this is not the case. When you lease your vehicle, you have room to negotiate the leasing costs with the dealer. If you don’t negotiate the price, the dealer may steamroll you with any price they want.
In leasing, the sticker price of the vehicle is the “cap cost.” If you negotiate to lower the cap costs, then it results in a lower upfront payment and monthly leasing fee, or both. If you are only intending on driving the car for a set period, say a few years, then you might want to look into a residual plan.
With residuals, you only pay the cap costs on the vehicle for the time you own it. The lender or dealer relies on the market value of the car when you trade it in at the end of the lease to settle whatever you owe.
As a result, you get a far lower monthly payment on a premium vehicle. The cap costs aren’t the only factor you can negotiate on your lease. Get the lender to reduce your interest rate, and you could save thousands of dollars. Negotiating the mileage cap ensures that you don’t get any nasty surprises when you hand over the vehicle at the end of the leasing period.
Failing to Account for the Total Cost of the Lease
When arranging a lease on a new car, it’s easy to get lost in negotiating the lowest monthly leasing fee possible. However, you need to focus on the bigger picture instead. Ask the dealer to break down the costs associated with the lease, as well as all the terms and conditions.
When you understand the total costs involved with the lease, it gives you more leverage you can use to compare offers from other dealers. It’s for this reason that most dealers want to keep your attention on the lease payments instead of a holistic view of all of the costs involved with the lease agreement.
When you sign the lease contract, you’re not only committing to the monthly payments, but also all of the out-of-pocket costs and the down payment associated with the deal. Calculate the costs of your lease by multiplying the monthly leasing fee by the duration of the contract. Then include the down payment and any additional fees.
Not Taking Gap Insurance Cover
One of the most significant mistakes people make with a new lease is not taking gap insurance cover. Gap insurance is a necessity, and skipping it could end up costing you dearly if you have a wreck that totals the car or it’s stolen.
The gap in gap insurance refers to the value of the car, minus what you still owe on the lease. For example, your lease agreement states that at the end of the term, you have the option to buy the vehicle for a residual payment of $13,000.
If you wreck the car beyond repair, then your insurance company pays the dealer the outstanding amount based on the market value of the vehicle. However, if the insurer only values your car at $8,000, you’ll end up having to make a $5,000 out-of-pocket payment to cover the residual cost.
By taking gap insurance, the insurer covers any shortfall in the residual value of the vehicle. As a result, you don’t have to worry about making a $5,000 payment for a car you don’t own.
Not Researching Online
We live in a consumer-orientated society. The advent of the internet now makes it easy for you to scour the web for the best leasing deals available. However, it may surprise you to learn that very few people take the time to research leasing deals before they sign the agreement.
Start your search by reviewing independent new car reviews and rankings. By doing your research before you buy, you get an idea of the most popular deals available, and which models are the best sellers in each vehicle category.
The U.S. News, Best Price Program, helps you locate the best deals by connecting you to dealers in your local area that are offering pricing specials. Never sign lease agreements after visiting with only one dealer.
Shop around at several dealers before you make any attempt to visit a dealership in person. Contact the sales departments of dealers and explain your situation. Takes notes on their offering, and then call another dealership to compare notes. You should try and compare the pricing from at least five dealers before making your final decision.
Dealers all have independent pricing models, and some might have more flexibility and room in negotiating the price. If you meet a salesperson that is chasing a target, they might offer you a deal you can’t refuse to make their monthly sales quota.
It’s for this reason that we recommend shopping for a new vehicle lease in the last week of the month. During this final week, salespeople are hungry to meet their monthly targets.
Applying with a Weak Credit Score
Another common mistake made by people looking for a new lease is not understanding their credit score. The three big credit bureaus, Equestrian, Equifax, and TransUnion, collect data from credit agents like your bank and insurance company every month. The bureaus use this information to allocate you a credit score.
When creating your credit score, the bureaus look at five weighted factors to determine their financial risk in the deal. Your credit score consists of the following five elements.
- Payment history – Do You pay your bills in full and on time every month?
- Credit mix – How many different credit facilities do you hold? The more you have, the better.
- Credit inquiries – How many times have you tried to get credit
- Credit history – How old are your credit facilities?
- Credit utilization – The ratio of credit available in your accounts. Banks and lenders don’t like you using more than 30-percent of your credit facilities.
After reviewing all five factors, the bureaus allocate you a FICO score between 300 and 850. Your credit score affects the APR of your new lease. The APR is the annual percentage rate charged on your outstanding balance.
People who have excellent credit scores of 800 or more get access to the best APRs, and they will never struggle to find finance. Individuals with credit scores between 681 and 799 have average credit and will have to negotiate for a better rate. Those people with a subprime credit score below 679 will pay the highest financing charges.
Before you look at leasing your vehicle, it’s vital that you understand your credit score. The credit bureaus let you check your credit score once a year for free. Take advantage of this service and request a copy of your credit report.
If you have excellent credit, then you are good to go. However, if you have an average or subprime credit score, it’s worth your while to hold off on the new lease until you can bump up your score to the excellent range.
Over-Running the Mileage
When you sign a lease, the dealer puts a cap on the mileage you can travel under the lease term. It’s common practice for most dealers to cap your annual mileage at between 10,000 to 15,000 miles. It’s critical that you don’t exceed that mileage. If you overrun your mileage cap, the dealer could charge you as much as $0.30 for every mile you drive over the limit.
Make sure you understand your driving habits before you commit to the lease. If you overrun the mileage cap by 5,000-miles, it could end up costing you up to $1,500 extra when you hand in the vehicle.
Failing to Maintain the Car
If your car experiences excessive wear-and-tear, the dealer will charge you additional fees when returning the vehicle. If you’re towing a trailer every day, then it may reduce the life of the clutch, and other mechanical parts in the drive train.
If the car has scratches or damaged alloy rims from hitting curbs, expect the dealer to charge you for the damage. Each dealer will have an interpretation of fair use, so it’s crucial that you understand these terms before you sign the lease.
When returning your car to the dealership, you’ll have to remain present while they inspect the vehicle. Don’t think that the inspector will go easy on you. Some dealers use this as an opportunity to tack on as many additional fees as they can. Make sure you understand the terms and conditions of the returns policy before you sign the contract on the dotted line.