Considerations for Buying or Leasing a Car

Understand the Advantages of Both Options Before Deciding

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When you lease a car, you are basically renting it. Leasing is advantageous if you like to get a new car every two to three years, as it can lower your car payments or give you the opportunity to drive a more expensive car with a payment comparable to a less expensive car, such as a Lexus on a Toyota budget.

The chief disadvantage to leasing is that you must make a decision about buying a new car once the lease is up; you generally won't be able to keep the car an extra month or two while you decide what to buy next.

Also, most leases have mileage caps. If you exceed the mileage allowed on your lease, you may be in for some hefty fees.

The Leasing Conundrum for People Who Like to Own

One of the primary objections to leasing: You have no equity in the car. This is true. However, because most cars depreciate, having equity in the car really doesn't gain you anything in the same manner that ownership of other assets might. How exactly does that concept work with most vehicles?

Let's say Joan buys a car for $30,000. She pays it off in three years. She then sells the car, which is now worth $20,000. Her friend Kate leases the same car for 36 months. She pays out $10,000 in lease payments, then returns the car to the dealership and walks away. Both women have spent $10,000 to drive the same car for the same amount of time. The difference is that while Joan had $30,000 of her own money in play, Kate only had $10,000 tied up in the car; her down payment and/or monthly payments would have been a great deal lower than Joan's.

How Car Lease Costs Are Determined

When you lease, your payment is based largely on the difference between what the car costs new and what it will be worth at the end of the lease, known as the "residual value." Cars that hold their resale values well will be less expensive to lease; cars that depreciate rapidly will cost more to lease.

Compare a car with a high resale value, perhaps a Toyota, against a comparably priced car with a lower resale value, such as a Chrysler. If you are buying outright, the down and monthly payments will be similar. But if you are leasing, chances are the Chrysler will have a significantly higher lease payment, because it will be worth less at the end of the lease. Likewise, options that would raise the purchase price often have the opposite effect on a lease. A car with a manual transmission may be cheaper to buy, but it may be more expensive to lease, as the car will have a lower residual value.

Mileage Limits on Leased Automobiles

Because a car's mileage affects its resale value, leases generally have an annual mileage limit, usually 10,000 to 15,000 miles per year. The average American driver puts about 12,000 miles per year on his or her car. Be sure to ask about the mileage limit as well as the cost-per-mile penalty for exceeding the limit. If it's too low, you can usually negotiate for a higher limit, but doing so will increase the cost of the lease. If you are a high-mileage driver — driving18,000 miles per year or more — you may be better off buying the car instead of leasing. But be wary; an unscrupulous dealer trick is to offer a low-cost lease with an absurdly low mileage limit.

Tax Advantages of Leasing a Car

If you use your car for business, you may be able to write the entire amount of your lease payment off your taxes, as opposed to writing off only the interest on a new-car loan. Tax regulations vary, so consult your accountant or tax professional about the tax advantages of leasing a car.

Gap Insurance

Many leases require gap insurance; even if your lease doesn't, it's still a good idea to get it. If you're unfamiliar with gap insurance, learn more what gap insurance is and some of its benefits. 

To Lease or to Buy?

The best candidates for leasing a new car are individuals who like to buy a new car every few years. Leasing will allow you to lower your payment or to drive a more expensive car with a monthly payment similar to a less-expensive car.

If you prefer to keep your car for a long time, have high mileage annually or don't want to be forced into choosing another car at the end of a lease period, you're likely a person who should look into buying a car, rather than taking out a lease.