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3360 Hwy 61 N, St. Paul, MN 55110

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Car Leasing FAQ

Car leasing has been increasing in popularity in recent years. As more people understand what a car lease is, more people lease cars. There is a common misconception out there that car leasing is bad, but the reasons are pretty misguided. There are a lot of great reasons to lease a car. Learn more about car leasing below, and feel free to contact us if you have any questions about car leasing in Minnesota.

What is a Car Lease?

Let’s start with the basics. A car lease is an agreement between a bank (the lessor) and the person leasing the car (the lessee) that allows the lessee to use the car for an agreed amount of time and with certain restrictions. Generally speaking, car leases are calculated based on the amount of depreciation the bank estimates will occur during the lease term. Rather than paying for the entire cost of the vehicle through a purchase, a car lease pays for the car’s depreciation over your term length.

What is the Difference Between Car Leasing and Buying?

Some people would say that a car lease finances the depreciation of the vehicle and that a purchase finances the total price of the vehicle. While not entirely correct, this is a pretty good comparison.

When you lease a vehicle, you are only paying for your usage of the vehicle. Think of it as a long-term rental. You’re paying for the depreciation of the vehicle during your use and the financing and taxes associate with that usage. Your usage is defined at lease inception with mileage limits and your term length. At the end of your lease contract, you return the vehicle to the dealership.

When you purchase a vehicle, you are paying for the entire cost of that vehicle, plus any financing or taxes. Once you pay off the bank, you own the vehicle outright and can do with it as you please.

Car Leasing vs. Buying: Which is Right for Me?

Deciding whether or not you should lease or buy is entirely personal. What is mostly comes down to is your lifestyle. Leasing benefits include:

  • Lower monthly payments
  • Turn it in when you’re done (no selling)
  • New car every couple years
  • Usually within manufacturer warranty
  • Lower out-of-pocket costs

Buying benefits include:

  • Ownership after payoff
  • Freedom to modify vehicle
  • Sell whenever you want
  • No mileage limits

What it really comes down to is your lifestyle. Do you like to have the latest and greatest or do you like to keep things for a long time? Do you look at things from a purely financial standpoint, or are you alright with paying a little more for the things you want? Are you willing to sacrifice ownership for a lower payment? Ask yourself these questions and see if they help. If you need more assistance deciding whether or not you should lease or buy, contact us. We help people like you every day.

What is a Money Factor?

A money factor is a value used express how much interest will be charged on a lease. The money factor can be converted to APR by multiplying the money factor by 2,400. For example, a money factor of 0.001 can be converted to an APR of 2.4% (0.001 * 2400).

How Can I Calculate My Lease Payments?

In order to calculate your lease payments by hand, you’ll need to have the following information:

  • MSRP: The Manufacturer’s Suggested Retail Price. This is the price set by the manufacturer (i.e. Honda).
  • Selling Price: This is the price of the vehicle as offered by the dealership. May include incentives and discounts.
  • Residual Value: This is what the bank estimates your vehicle to be worth after the lease expires. This value is typically a percentage.
  • Term Length: The length of the lease agreement in months.
  • Money Factor: This is used to calculate the interest charged on the lease.

Step 1: Monthly Depreciation

The residual express as a percentage of the MSRP that the bank estimates the car will be worth at the end of the lease. The residual is based on the vehicle, term length, and mileage restrictions. The depreciation is calculated based off of the residual provided by the leasing bank (Honda Financial Services, etc.) and the capitalized cost. The capitalized cost is the amount being financed. The capitalized cost is the selling price of the vehicle minus incentives and down payment.

Monthly Depreciation = (Capitalized Cost – Residual Value) / Months

Our example:

Imagine that you want to lease a vehicle for 36 months and 12,000 miles per year and the vehicle has an MSRP of $20,000. The dealership is offering a selling price of $19,000 ($1,000 dealer discount) and the manufacturer is offering a $1,000 incentive. For your specific vehicle, 36-month term length, and mileage restrictions, the bank has set a residual percentage of 61%.

Based on the residual percentage, the bank estimates that your vehicle will be worth $12,200 ($20,000 × 0.61) at the end of your lease. This is your residual value. Note that we used the MSRP to calculate the residual value, not the selling price.

Capitalized cost is the amount being financed. This is typically the selling price minus incentives and down payment and plus fees. In this example, our capitalized cost is $18,000 ($19,000 selling price – $1,000 manufacturer incentive).

Depreciation is calculated by subtracting the residual value ($12,200) from the capitalized cost ($18,000). In this simplified example, the depreciation would be $5,800. To get our monthly depreciation, we divide our total depreciation ($5,800) by the term length in months (36).

Monthly Depreciation = ($18,000 – $12,200) / 36

Monthly Depreciation = $161.11

Step 2: Monthly Finance Charge

The formula to calculate the monthly finance charge is simple. Check it out below:

Monthly Finance Charge = (Capitalized Cost + Residual Value) × Money Factor

Our example:

Continuing with the same example in Step 1, we already know our capitalized cost and residual value. They are $18,000 and $12,200 respectively. The money factor is what indicates how much interest will be charged. It can be expressed as an APR by multiplying the money factor by 2400. For example, a money factor of 0.001 could be seen as a 2.4% APR. In this example, the bank has offered us a money factor of 0.001. Let’s plug this into our formula:

Monthly Finance Charge = ($18,000 + $12,200) × 0.001

Monthly Finance Charge = $30.20

Step 3: Base Monthly Payment

The base monthly payment is the payment expressed before tax has been added. To calculate your base monthly payment, simply add your monthly depreciation to your monthly finance charge. Here’s the basic formula:

Base Monthly Payment = Monthly Depreciation + Monthly Finance Charge

Our example:

Add the monthly depreciation ($161.11) to the monthly finance charge ($30.20) for a base monthly payment of $191.31. Note that this payment does not include tax or fees. A standard lease like the one we are calculating here charges the first payment and fees upfront at lease inception. Let’s plug our values into the formula below:

Base Monthly Payment = $161.11 + $30.20

Base Monthly Payment = $191.31

Step 4: Monthly Lease Payment

The last thing that we need to add into the payment is tax. Lease taxation varies greatly by state. Fortunately, Minnesota is a lease-friendly state. In Minnesota, tax is levied on the lease payment. This means that we need to calculate the tax for each lease payment and add it to the payment. Other states tax on the full cost of the lease and require the tax upfront. Some states even tax on the full selling price of the vehicle; creating a huge tax bill and very expensive leases.

To calculate our monthly lease payment, we simply need to add the tax to our monthly payment using the following formula:

Monthly Lease Payment = Base Monthly Payment × (1 + Tax Rate)

Our example:

At the time of this publication, the local tax rate is 7.125%. We will express this in our formula as 0.07125. Add 1 to the tax rate for 1.07125 and multiply that by the base monthly payment calculated in Step 3 for a monthly lease payment of $204.94:

Monthly Lease Payment = $191.31 × (1 + 0.07125)

Monthly Lease Payment = $204.94

This is the final monthly payment that you will be billed for. Good job!

Step 5: Drive-off and Disposition Costs

At least inception, you should expect some upfront costs and maybe even a lease-end cost. These can include an acquisition fee, document fee, your first payment, registration fee, down payment, disposition fee, additional taxes and more. Let’s define these briefly:

  • Acquisition Fee: The acquisition fee is set by the bank offering the lease, and is almost never negotiable.
  • Document Fee: The document fee is a fee that covers the dealership’s processing of your – you guessed it – documents. This covers the dealership’s documentation processes that help to get your vehicle titled and registered with the state’s motor vehicle department.
  • Registration Fee: The registration fee is a state-imposed fee for registering your vehicle. This is essentially a tax and is non-taxable.
  • Down Payment: The down payment is an upfront cost that reduces the capitalized cost used to calculate your lease payment. The larger the down payment, the less your payments will be.
  • Disposition Fee: Depending on your lease agreement, a disposition fee may be charge at the end of your lease agreement.
  • Additional Upfront Taxes: Additional upfront taxes include taxes due on the acquisition fee, document fee, down payment, trade allowance, and other upfront, taxable charges.

Our example:

So now we know our monthly lease payment. It’s $204.94 per month. What else are we going to have to pay to lease this car? Let’s assume an acquisition fee of $595, a document fee of $100, and a registration fee of $400. We did not make a down payment in this example.

To calculate our drive-off (upfront costs), let’s first calculate the taxes we will owe on our fees and taxable cap cost reducers (down payment, taxable incentive, trade allowance). Let’s take the acquisition fee ($595), document fee ($100), down payment ($0), and manufacturer incentive ($1,000) and calculate our drive-off taxes due on those items:

Drive-off Taxes = (Acquisition Fee + Document Fee + Down Payment + Taxable Incentives + Trade Allowance) × Tax Rate

Drive-off Taxes = ($595 + $100 + $0 + $1,000 + $0) × 0.07125

Drive-off Taxes = $120.77

Next, we will add all of our drive-off costs and taxes for our total drive-off. Let’s sum up our first lease payment ($204.94), acquisition fee ($595), document fee ($100), registration fee ($400) and drive-off taxes ($120.77). If you are making a down payment, don’t forget to include that here. This leaves us with a total drive-off of $1,420.77. This is the amount due when you sign the lease.

Leasing Costs Summary

Lease costs can be typically be broken down into drive-off costs, lease payments, and disposition costs. Keep in mind that additional wear and tear on the vehicle could lead to more charges at the end of your lease.

Our example:

Let’s imagine the bank imposes a $395 disposition fee. The disposition fee is determined at the start of the lease. If we wanted to calculate our total lease cost, we would need to add our total drive-off, our total lease payments (don’t forget that one of these payments is in the drive-off), and our disposition fee. If you mistreat your vehicle, you may also incur wear and tear charges. Let’s assume you don’t. Here’s how that would look in a formula:

Total Lease Cost = Total Drive-off + (Monthly Lease Payment × (Term Length – 1))* + Disposition Fee

Total Lease Cost = $1,420.77 + ($204.94 × (36 Months – 1))* + $395.00

*We subtract 1 from the term length because the first payment is included in the total drive-off.

Total Lease Cost = $1,420.77 + $7,172.90 + $395.00

Total Lease Cost = $8,988.67

Additional Notes

The above formula is specifically used to calculate a lease where the first payment and fees are due at drive-off. It is also limited to states that levy tax on the lease payment, like Minnesota. Most states calculate lease taxes this way, however yours may be different.

In most cases, you may opt to roll your fees or taxes into your car lease payment to lower your drive-off. Note that the calculations become very different from the method listed here – especially regarding taxation. You can even choose to roll all of your drive-off costs into your payment. This type of lease is referred to as a Sign and Drive lease. Sign and Drive leases are becoming increasingly popular as people prefer to trade upfront costs for an increased monthly payment.

However you would like to lease your vehicle, we will work with you to find the right balance for you.

Where Can I Find a Good Lease Deal?

Car leasing is a great way to keep your monthly payments down. If you’re looking for a good lease deal on a new Honda, check out our special offers. We post great lease specials on a regular basis to help get you into an affordable new car. If you can’t find what you’re looking for on our website, contact us.

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