How Leasing A Car Works: A Guide and Glossary

Car buyers are given two options when it comes time to finance their car: They can buy the car, or they can lease it. Buying means the car is yours when you’re done paying for it. Leasing is like renting the car for a set amount of time, like you would a house or apartment. You have to return the car to the dealership at the end of that term.

Both financing options have their perks, but for now we’re going to focus on leasing.

What You Need to Know About Leasing a Car

Leasing is great for car buyers who want to get into a new car every few years.

For the most part, these drivers are into the latest technology, new gadgets, new car models, and so on. They’re hooked on the new car smell.

Leasing is also a more favorable option if you have a tighter monthly budget. In general, the monthly payment on a car you’re leasing will be lower than if you buy the same car. Why?

When you lease your new car, you’re paying for the depreciation of the car for the time you’re leasing it rather than financing the whole vehicle cost.

Did we lose you?

Sorry, we just threw a bunch of terms your way. Let us walk you through it.

Here’s how car dealers calculate your monthly lease payment, which is what most lessees care about.

How Lease Payments Are Calculated

Purchase Price of Vehicle

This is the sticker price on a new car (the MSRP). You can lock in a good lease payment if you get this number as low as possible, but that means getting through the part of the car-buying process that most people agonize over: negotiation.

Fortunately, if you’re buying or leasing through CarBuckets, we do this part for you, granting you access to group discounts you can’t find anywhere else. Since we leverage the power of volume sales, our local dealers are able to give greater discounts to CarBuckets buyers than if those same buyers were negotiating alone.

Residual Value

What’s your car going to be worth at the end of the lease when you hand the keys back to the dealer? Dealers sell your leased car as a used car when you’re done with it, which is why this number is important. Residual value is determined by banks and lenders, using market data, and is therefore non-negotiable in the car-buying process.

Several factors go into determining residual value, such as the make, supply and demand, safety features, brand value, and more. However, there are two main factors that determine the residual value of your lease:

Mileage Allowance – how many miles you’re allowed to drive your car during your lease. You’ll decide your allowance at the dealership based on how much you think you’ll use the car. The range is between 10,000-15,000 miles a year.

It’s important that you are realistic with yourself when choosing your mileage allowance — going over will cost you. Dealers charge a fee per mile over, and the higher your mileage allowance, the lower the residual value of your car will be (because used cars sell for higher when they have low mileage). The lower your residual value is, the higher your lease payment is.

Lease Term – how many months you plan on leasing your car. This can get tricky. The longer your lease term, the lower your monthly payments will be, but the total amount you’ll pay over the duration of the lease will be greater with a longer lease than with a shorter lease term.

Why?

Because the age of a vehicle is one of the factors that determine the value of a used car (think: residual value).

When deciding on your mileage allowance and lease term, you have to weigh your choices carefully. Ask the dealer to show you different options, and do what’s best for you and your wallet.

Determining the Total Lease Price

Time to do the math.

Once the variables are determined, the dealer subtracts the purchase price from the residual value to calculate your total lease price. This total lease price is the amount you need financed (borrowed) for your lease unless you’re making a down payment.

Down payment – money you pay upfront that is subtracted from the total lease price. The more money you put down, the less you’ll need to finance, which in turn lowers the overall total cost of your lease.

If you’re trading in a car, this counts toward your down payments as well. There are different schools of thought on whether you should put a large down payment when leasing. The decision is solely up to you and your finances.

After you decide how much of a down payment to make and once it is subtracted from your total lease price, you’re left with the total amount to finance, which is the amount you need to borrow from the bank.

As with any other loan, you will have to pay interest on the amount you’re financing.

Interest Rate – how much the bank charges to lend you money. Your exact rate depends on your credit score. The better your credit score, the lower your interest rate. The lower your interest rate, the lower your monthly payment.

Lenders will provide you with their interest rate once you’ve submitted a credit application with them. This number comes in the form of a percentage.

Dealers then combine the interest rate with your total amount to finance. That number is then divided by the lease term you agreed on, finally arriving at the magic number: your monthly lease payment.

What Else Should You Know About Leasing a Car?

The point of explaining all the variables in this math problem is to show you that the best way to lock in your lowest monthly payment is to take as much money off the top — your total purchase price — as possible.

Lean on us for that.

CarBuckets is committed to getting you an awesome total purchase price through our ability to get buyers like you group discounts. Group buying for cars (and frankly anything) is among the most effective negotiating tactics.

Worth noting, you will still have to pay standard taxes and fees upon signing. Be sure to ask your dealer for an itemized list of what is due at signing. This list includes first payment, title fees, and registration fees. Your down payment (or trade-in value) will also appear on this list.

Additionally, you should consider investing in gap insurance. It provides extra coverage if you’re ever in an accident. Gap insurance covers what your primary auto insurance doesn’t cover (like the remainder of your lease if your car is totaled). This type of insurance is not mandatory, but it might give you extra peace of mind.

We hope we’ve demystified the leasing process for you. If you have any more questions, feel free to contact us. We’re committed to being your car-buying partner, helping you navigate the process every step of the way.