Personal Finance
Leasing: The Four-Wheel Money Pit
The monthly lease payment only looks like a better deal
Leasing a car is a penny-wise, pound-foolish mistake about one in three new car buyers falls for. Before the financial crisis, about 20% of new car buyers fell into the leasing trap.
The penny-wise allure: Monthly payments for a lease are about $100 less than the average cost of a loan, according to Experian Automotive: $554 vs. $457.
In the first quarter of 2019, the average monthly lease payment for a Jeep Cherokee was $130 less than the average loan ($365 vs. $491). The differential is pushing $200 a month for the Ram 1500 ($654 vs. $463) and Ford F150 ($481 vs. $666). That goes a long way toward explaining why leasing is ever more popular. A 2018 survey from Cox Automotive found that the most popular reason for leasing – cited by 43% of participants – was lower monthly payments.
The pound-foolish trap: After the three-year lease period, most people return the car to the dealer and then lease another car or pickup. It never ends.
Say you lease three consecutive cars over a nine-year period, and manage your payments on the third three-year lease to be exactly the same as the current $457 average payment. (To be clear, that is being optimistic. Car research firm Edmunds.com reports that in 2019 people whose cars were coming off a three-year lease faced payment spikes of more than 20% to lease a new version of the same car.)
For the nine years, that’s $49,356 in total payments.
Now let’s turn to buying with a traditional loan. The average loan term is around 69 months for new cars. Again, being generous, how about we round that up to 72 months. At an average monthly payment of $554, payments over six years will cost a smidge less than $40,000.
The $10,000 savings from buying is a wash if the lessee invests the $100 saved each month and parks it an online savings account earning 2%. Over nine years, they would have $11,000, seemingly wiping out the buying advantage.
Even if that’s your plan, hold off on the victory lap.
If you pay off the loan in six years, chances are that car can be driven for at least another three years. At least. You may like a new car, but given improved dependability, nine years is not a stretch. The average car on the road is about 11 years old.
After your six-year loan, you have three years to play with. You could take the $554 a month and tuck it into a high-yield online bank savings account that pays 2% annual interest. That gives you more than $20,500 after three years. Sure, there will be maintenance issues on your older car, but not $20K worth. You’ll have plenty in savings.
Maybe that’s the emergency savings fund you’ve been itching to grow. Maybe it’s cash you bring to the table to buy your next car. If you buy a lightly used three-year-old car, your purchase price will be about 50% below the new-car price. That makes it likely your three years of savings can pay for a big chunk, even all of it.
Or funnel the $554 into retirement savings. After three years you will have about $21,500 saved, assuming a 5% annualized return. Then if you just leave that money growing for another 22 years it will be worth around $64,000. The car you bought 25 years ago with a loan, rather than a lease, makes it possible to have another $64,000 for retirement.
The younger you are, the bigger the payoff. Let the money you saved during that three years grow for another 30 years and it will be worth $96,000. At 32 years it will be worth about $106,000, assuming a 5% annualized return.