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Car leasing is an excellent alternative to purchasing a car. Leasing gives you the flexibility of driving different vehicles, the ability to trade in your current lease for new models at any time, and can be more affordable than buying or financing a car. You must know what you are getting into before signing on the dotted line, though.
This guide will provide all the information you need about car leasing so you can make an informed decision when it comes time to sign your name on the contract!
What Is a Car Lease?
A car lease is a contract between the lessee and the lessor. The leasing company purchases a vehicle from an auto dealership or directly from a manufacturer, then turns around and leases it to you for a period of time with specific mileage limits per year.
In addition, your monthly payment includes interest charges as well as taxes. If you keep up with the lease, you will not own it at the end of your term; however, if you go past due on payments or exceed mileage limits, then there are consequences.
Car Lease Terminology to Know
- Acquisition Fee: An acquisition fee is a one-time charge covering administrative and processing costs related to leasing. The price varies depending upon where you choose to lease your car and can range anywhere from $300 to over $1000.
- Lessor: The lessor is a financial institution that owns the vehicle you choose to drive during your leasing term. They make money on interest charges and selling off cars at an agreed-upon price (residual value).
- Lessee: The lessee is you, the person who signs the lease agreement and agrees to make monthly payments to use the car.
- Co-Signer: Co-signers are individuals that consent to be responsible for your car lease if you fail to make payments on time. Most leases require a co-signer if you do not have the appropriate credit score.
- Disposition fee: A disposition fee is a charge assessed by the lessor when you turn in your leased vehicle to end your term. This fee covers all administrative and processing expenses incurred by the lessor when you turn in your leased car, including vehicle inspection, cleaning, and repairs. This fee varies by leasing company but is generally around $350-$500.
- Residual Value: The residual value is the agreed-upon price your leased vehicle will be sold for at the end of your term. It’s a common misconception that the residual value is how much you will owe at the end of your term; however, it’s actually a fixed price agreed upon by both parties.
- Rent Charge: The rent charge is the total interest and fees charged to you by your lessor during your leasing period. This can be a good indicator of how much a car lease will actually cost you.
- Lease Term: The lease term is the number of months/years you agree to lease the vehicle. The longer your lease term, the lower your monthly payments will be; however, it also means you’ll owe more at the end of your term if you decide to return the car and buy out what’s owed (also known as a “buyout”).
- Purchase Option Agreement: A purchase option agreement is a form you sign to indicate your intention of buying the car at the end of your lease term. This gives you first dibs on purchasing the vehicle before going back onto the market for sale or auction.
- Security Deposit: A security deposit is an amount you pay upfront, which will be held as collateral should you fail to make payments on your car lease. This deposit is generally equal to one month’s rent but can vary depending upon the leasing company.
- Money Factor: The money factor is a calculation used to determine the interest rate on your car lease. It’s expressed as a decimal (e.g., 0.0025), and you multiply it by 2400 to get the annual interest rate.
- Mileage Allowance: The mileage allowance is the number of miles you can drive per year without incurring additional charges. Most leases have a limit of around 12,000-15,000 miles/year. Anything over that allowance will result in a charge per mile at the end of your term.
- Gap Insurance: Gap insurance is an optional insurance policy that pays the difference between what you owe on your vehicle and the actual cash value should it be totaled or stolen. This can be a helpful safeguard for those leasing a vehicle, as the residual value may not cover the total amount still owed on the lease.
- Capitalized Cost: The capitalized cost is the total amount you will pay for your car lease, including the down payment, monthly payments, and other associated fees.
- Buyout Price: The buyout price is the total amount you would owe to purchase the car at the end of your lease term. This price includes the remaining balance on the lease and any applicable fees (e.g., disposition, residual value).
- Cap Cost Reductions: A cap cost reduction is a down payment made by you to reduce your capitalized cost. This can help lower your monthly payments, but it’s important to note that you will still owe the same total amount at the end of your term.
How to Lease a Car (Step-by-Step)
This step-by-step guide will walk you through the process of leasing a car, from budgeting to signing the final paperwork.
Step 1: Build Out a Car Leasing Budget
The first step in leasing a car is to build out a budget that accounts for all costs involved with this type of contract. Make sure you factor in your down payment, acquisition fee, disposition fee, monthly payments, and other additional fees associated with the lease.
Step 2: Research Car Options
Once you’ve determined the total cost of your lease, it’s time to narrow down which car is right for you. Begin by researching different styles and brands that fit within your budget range. Then, determine whether or not there are any other fees (e.g., acquisition fee) associated with those leases and their residual values at the end of the term.
Step 3: Visit Multiple Dealerships & View Online Options
Once you’ve found a few cars that you’re interested in, it’s time to start visiting dealerships and checking out their inventory in person. Be sure to also look at online options, as some dealers may have better deals available exclusively through their website.
Step 4: Read and Understand the Lease Terms
Before signing any paperwork, it’s essential to read and understand the lease terms in their entirety. This includes understanding the monthly rent charge, mileage allowance, and end-of-term fees. If you don’t feel comfortable with any aspects of the contract, be sure to discuss these points with the dealer before moving forward.
Step 5: Negotiate Lease Terms with Dealer
If you’re not happy with any of the terms in the lease agreement, don’t be afraid to negotiate with the dealer. This may include working on a lower monthly rent charge, increasing the mileage allowance, or adjusting the disposition fee. Remember, it’s crucial to have a clear understanding of what you agree to before signing anything.
Once negotiations are complete, sign the lease agreement and take delivery of your new car. Be sure that you read through the entire contract carefully before signing, as it will be legally binding once this has been done.
Step 6: Maintain Your Car
Like any other type of loan or credit agreement, it’s vital to maintain your car and make all your payments on time. Failing to do so could result in penalties, increased interest rates, or even the repossession of your vehicle.
- Keep your car serviced regularly. You can use a service manual to determine how often you should be servicing it and any associated fees that may apply.
- Know the mileage allowance on your lease agreement before hitting the road, as additional miles will result in increased costs at the end of your term.
- If you’re going to be driving in a particularly harsh environment (e.g., on a gravel road), consider purchasing gap insurance to protect yourself from any damage that may occur.
- Stay up-to-date on all payments, as late, or missed payments could result in additional fees and penalties.
Step 7: Research How to Return Your Car or Purchase It
Once your lease is up, you’ll have two options: return the car to the dealer or purchase it. In most cases, your best option will be to return it and walk away from any remaining payments. However, if you’re not happy with this arrangement, you can also choose to take over ownership of the vehicle by purchasing it for the agreed-upon price.
To learn more about each of these options, be sure to research the “purchase option agreement” and “buyout price” in your lease contract. This will give you a better understanding of what’s required if you decide to take either path.
What Documents Do I Need to Lease a Car?
The documents required to lease a car vary depending on the individual dealership. However, you’ll typically need to provide proof of your identity (e.g., driver’s license), proof of income (e.g., W-Form or pay stubs), and a down payment that covers the acquisition fee plus any additional fees that may apply (e.g., disposition fee).
Many states will also require proof of insurance before you’re allowed to take possession of the car. Be sure to check with your local DMV for more information on what’s needed in your area.
In some cases, you may also need a co-signer. This is typically only required if your credit history isn’t strong enough to qualify you for a lease agreement. If you’re using a co-signer on the lease agreement, they’ll also need to provide their own documentation (e.g., driver’s license, proof of income) and sign the contract.
What Credit Score Do You Need to Lease a Car?
The credit score you need to lease a car varies depending on the leasing company and the type of vehicle you’re looking to lease. However, in most cases, you’ll need a score that’s above 620 to be approved.
If your credit score is below this number, don’t worry – there are still ways to get behind the wheel of a new car. For example, you can have a credit-worthy co-signer help you qualify for the lease or consider taking on an auto loan instead.
Some dealerships will also allow you to pay a larger down payment to qualify for the lease. Just be aware that this may increase your monthly payments and result in additional fees at the end of your term (e.g., disposition fee, unpaid balance).
Why Do People Lease Cars?
The number one reason people lease cars is that they offer various benefits compared to other types of car purchase options.
For example, leases typically have lower monthly payments and allow you to drive a more expensive vehicle for less money upfront. In addition, many leasing companies will allow you to keep your leased car as long as it’s in good condition, which is not always the case with car loans.
Finally, many people choose to lease cars because it gives them the option to purchase the vehicle at the end of the term for a set price. This “purchase option agreement” is a great way to avoid any surprises (e.g., the market value may be lower than expected)
Bottom Line: How to Lease a Car
Leasing a car can be a great way to have access to a new vehicle while only paying for the amount you use. However, it’s essential to educate yourself on all aspects of this type of contract before signing anything and taking delivery of your car.
Understanding the steps required and terminology associated with leasing a car will help you make the best decision for your needs and budget. So, be sure to do your research before heading to the dealership!