Question: I want to lease a car, but leasing companies never mention their interest rates. How can I figure it out, especially if I have residual value in the car along with the other factors that have to be taken into account--such as the number of months of the lease, the monthly payments as well as the total payments?
Is there any general rule about deciding which is a better deal when you look at all these numbers?--N.C.
Answer: Like the birthing process, leasing a car is a lot more complex than it seems to be on the surface, in spite of the fact that, basically, it's a relatively simple transaction.
It's true, Sidney R. Rose, a Milwaukee-based consultant to the American Auto Leasing Assn., admits, that no leasing company ever mentions interest rates, "because once you mention interest the transaction becomes an installment sales contract instead of a lease, and it changes everything. It's not that they're trying to mask or hide anything. It's just that when you sell a product you must show the interest rate, according to all consumer lending laws. But in a leasing contract what would normally be considered interest is simply lumped in as a part of the service charge.
"The difference is tremendously important as far as the Internal Revenue Service and normal accounting practices are concerned. Obviously," Rose continues, "there is an interest rate involved in it all, and some dealers, if you put enough pressure on them, will tell you what it is, although it really isn't all that important."
As far as the consumer who simply wants to lease a car for his personal use is concerned, this omission of interest is important, because--unlike the purchase of a car through conventional financing, where the interest rate is specifically spelled out--there is nothing tax deductible in a lease contract. Thus, under normal circumstances, if the tax deductibility of the interest on your car loan is all that important, you are, technically, better off buying it.
"A car leased for business purposes, of course, is an entirely different proposition," according to John Fitch, executive director of the Washington-based leasing association, "because the percentage of the entire cost that is business-related is deductible. If, for instance, the car is used 60% for business, then 60% of the annual service charge is deductible, and whatever portion of that that would normally be regarded as interest is pretty meaningless."
But the overall question of whether to lease or to buy, and how to shop for the best lease contract, can get extremely complicated.
One of the undeniable appeals of leasing, however, is that, in most cases, the "down payment" is, essentially, a security deposit equivalent to only one or two months' service charge (or sometimes, for a repeat customer with good credit, nothing). This is in sharp contrast to conventional financing where 20% down is customary.
"The principal difference between buying and leasing," according to Robert J. Fox, president and owner of Atlas Leasing Group in Beverly Hills, "is that when you buy and finance a car, you're paying for the entire car so that, at the end, you own it outright. In leasing, though, your payments are essentially covering the depreciation. Most people, when they've paid off a car, normally turn right around and trade it in anyway."
In broad terms, according to the AALA's Fitch, leasing takes two forms: the open-end and the closed-end lease.
"Under the open-end lease," he continues, "we'll say a $15,000 car is involved, and the dealer estimates that, at the end of the lease, it will be worth $5,000. And so the monthly charge is based, not on the $15,000 base price but on the $10,000 difference. At the end of that time the dealer takes the car back and sells it. If it sells at less than the estimated $5,000, the lessee owes the difference, but if it sells for more than $5,000 the dealer rebates the difference to him."
In a closed-end lease, on the other hand, the service charge is based on the full $15,000 and, at the end of the three-year lease, the lessee simply turns the key back to the dealer with no regard for what the resale price is.
"A lot of companies that lease fleets of cars for their salesmen or other employees," Fitch adds, "prefer the open-end lease as a sort of perk for them. At the end of the lease period the employee can buy the car, himself, as a second car."
As a matter of practicality, however, Atlas Leasing's Fox continues, most of today's leases are written for either four or five years, and the distinction between open-end and closed-end have become blurred.
"Today's cars are made better, last longer, the warranties are better, and the style changes from year to year aren't all that radical. Back in '59 when we started up here," Fox adds, "1- and 2-year leases were commonplace. People, today, are generally hanging onto their cars longer simply because they cost so much."