How Auto Leasing Works
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Overview of Leasing
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Auto leasing has become a popular alternative to traditional financing in today's automotive market. Leasing differs from a traditional purchase because the consumer is not buying the vehicle, it is being "rented" or "leased" for a specified period of time.
The Basics of Leasing
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When you choose to lease a new vehicle, you do not pay for the entire cost of the vehicle; instead you only pay for the estimated depreciation of the vehicle during the specified lease term, plus any excess mileage or wear and tear. Auto manufacturers analyze data from various sources to estimate the value of a vehicle after a specified amount of time. Popular lease terms are 24, 36 and 48 months. The projected value of a vehicle after a lease term is over is called its residual value. When you lease a new vehicle, you will pay the difference between the residual value and the current price of the vehicle, plus any finance charges, taxes or over-usage fees.
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Understand Finance Charges (Money Factor)
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The finance charges associated with leasing differ from traditional financing. This is often a subject that confuses consumers and makes them wary of leasing. When a vehicle is leased, interest is calculated by using "money factor" rather than the common annual percentage rate. Money factors have a tendency to confuse some people because they are expressed in decimal points rather than percentages. For example, a typical money factor in an auto lease may be expressed as ".0035." To convert the money factor to its equivalent APR, simply multiply the factor by 2400 (.0035 X 2400= 8.4%). By multiplying the sample money factor, you discover it is equal to an APR of 8.4%.
Understand Mileage Limits
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When you lease a vehicle, a certain mileage limit usually applies to the total term. The limit is expressed in a yearly amount, usually starting at 12,000 miles per year. How many miles you drive during a single year is irrelevant; the only thing that matters to the manufacturer is that you do not exceed your total mileage limit for the term, for example, 12,000 miles a year for 3 years equals 36,000 miles. Most leasing programs allow you to prepay for extra mileage up front, often reducing your residual value and slightly raising your monthly payments. Selecting an appropriate mileage limit is important when leasing, because excess mileage fees can be very costly, often up to 25 cents per mile.
End-of-Lease Options
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An automobile lease usually allows for flexible options once the lease term is up. Most leasing programs allow you to purchase the vehicle for the original residual value if you choose. You can also surrender the vehicle back to the manufacturer with no additional costs, providing that the vehicle does not have excessive wear and tear or excessive mileage. If these apply, you will probably be required to pay out-of-pocket expenses, unless you buy the vehicle.
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