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Leasing Versus Financing: What’s the Best Way to Buy a Car?

    7 minute read

    If you’re buying a car, you may get stumped by the question of leasing vs financing a car. You may also have some very outdated ideas about what differentiates these two different ways of paying for a vehicle. We’re going to try to make the differences as well as the pros and cons of each as simple to understand as possible. If you don’t have good credit, you can still buy a car: you just have to be clever about it. There are also some very common mistakes people make when buying a car, so read on to avoid making them. After reading this article, the next time it’s time for you to get a new car, you won’t worry if you’ve made the right decision or not. You’ll understand you options and why one is best for you. Plus, you won’t go broke buying and insuring the car you need.

    What Is Leasing?

    Just like a lease on an apartment, when you lease a car, you are contracted to make 1monthly payments on that car and then return it to the dealership at the end of the contract term. Basically, you are renting the car for a fixed price, usually for 35 to 48 months. At the end of this term, you don’t own the car. However, you have the option of paying the residual to buy the car. If that residual is more than you can afford, you have the option of financing that amount in monthly payments, which are usually the same or lower than the lease payments.

    What Is Financing?

    Financing is just another way of saying buying. It is much the same as paying any other loan, with an interest rate included. At the end of your term, usually 24-60 months, you will own the vehicle. After paying off the loan, the car is yours to keep, sell or turn in for a new car. If you decide to keep the car, you won’t have any other car payments, aside from gas, insurance and registration, until your car dies or you decide to replace the car.

    What about Insurance?

    When you lease a car, you are typically required to take out high limits of liability insurance, in order to protect the leasing company. When you finance a car, the limits on your policy are usually lower, so you pay less each month. After you own the car, you can opt for the lowest limits to pay the least amount possible each month.

    Is There a Minimum Down Payment?

    When you lease a car you often don’t have to put anything down. You can put money down to bring down your payments but it’s usually not obligatory. However, with financing, you are expected to put down a reasonable amount. You can sometimes turn in your old car as the down payment, but it will be valued at the depreciated price.

    Which Is More Affordable?

    It depends on how you look at it. The upfront costs of buying/financing are usually higher. If you don’t have the money for a substantial down payment and you don’t have a 2car to turn in, you will find leasing more affordable, because your monthly payments will be lower.  With that said, if you buy a car, you don’t have any payments at the end of your contract, so you will save in the long-run, especially if you get a good deal on the car.

    It’s important to note that when you finance a car, your payments reflect the entire value of the car. However, depreciation can end up causing you to owe a remainder more than the car is worth, especially in the event that you didn’t put much down. If this is the case with a leased car, it’s a good option not to buy the car.

    If you’re planning a very expensive car which is above your means, you’ll probably have to lease. For car loans, lenders often require a Debt to Income Ratio (DTI) of 40% or less. If you make $5000 a month, your loan payments can’t go above $2,000.

    Terminating your lease term can be very costly, whereas you always have the option of selling a financed car, even before you’re finished paying it off.

    If you use your car for business purposes, leasing may just be the right option for you because you will be eligible for tax advantages you don’t get with financing.

    If you plan to use your car a lot, leasing may be difficult if you cannot negotiate higher than the usual 12,000-15,000 mile limit. It can be very costly to pay for overage if you exceed the mileage limit at the end of your term.

    If you foresee excessive wear and tear on your car, caused by children or pets, leasing may cost you at the end of your term. Only “normal” amounts of wear and tear are considered acceptable without a fine.

    Can I Buy a Car if I Have Bad Credit?

    If you have bad credit, leasing may be the more attractive option for several reasons. One reason is that a bad credit report will raise your interest rate, making the task of financing a car even more expensive. Your monthly payments will be lower and you will also have a shorter contract term with leasing. You also will have fewer out-of-pocket expenses if the car needs any repairs because leased cars are usually under the manufacturer’s warranty, which covers the maintenance costs.3

    The best news for people with bad credit is that leasing gives you the chance to improve your credit score after your term is over. If you do not miss a payment this can be just the boost you need to iron out your financial profile. After you repair your credit, you can start considering financing your next car.

    However, there’s also the reality that people with bad credit are often not approved for leasing either. Most no or low-interest incentives are based on credit and so are no-down payment incentives. If you do qualify, your interest rate will most likely be very high too.

    Even if you think you can afford a more expensive car, you may have to rethink your options if you have bad credit. Your credit will result in added charges, so you may want to consider buying a less-expensive car. Unfortunately, there is no such thing as a lease agreement on used cars, only brand-new ones.

    Do your car shopping when the manufacturer is bringing in a new inventory of cars. In trying to push out the older models, the dealers will offer easier financing terms, even for people with less-than-stellar credit. You may be asked to pay a percentage of the cost of the vehicle upfront if you don’t qualify, however. If that isn’t an option and you’re having a hard time qualifying, you may be able to convince the dealership if you offer to pre-pay the first several months in advance. Some dealers may expect weekly or bi-weekly payments to ease their minds. Each dealership is different, so do your footwork before you take the keys and end up broke.

    Also, bring as much proof of income as you can. If you can prove that you are making a substantial income, despite your low credit score, you may qualify. What dealerships will look for more than large paychecks is a steady income. Bring several months’ worth of pay stubs if you can. If you can, provide proof that your income will cover your bills as well as the added cost of leasing a new car.

    If you get approved at one dealership for a car you like, don’t get ahead of yourself. You always want to shop around for the best deals. Chances are that if you got approved for a lease at one dealership, you’ll be able to get one at another, and perhaps at a better rate, despite your low credit score. Use the quote from the first dealership to strike a better deal at the next one. Always shop around before deciding on “the one.”

    Another less-utilized option for buying a car when you have bad credit is to take over another person’s lease. While the lessor will still have to approve the takeover, qualifying for a take-over is much easier than getting approved for your own lease. The downside of taking over another person’s lease is that the car won’t come with a warranty. Make sure you have a reliable mechanic check it out before buying a car.

    If all else fails, a co-signer may be able to get you out of the bind of not qualifying due to poor credit. Ask a family member or a very close friend with excellent credit to do it and you should have no problem qualifying. However, if you default on paying, they will be held responsible and your relationship will suffer the consequences.

    What Is the Biggest Mistake People Make When Financing a Car?

    The biggest mistake some people make is buying a brand new car is that they can’t afford it and cut it close every month or even miss a payment. Let’s face it: A car’s value begins depreciating as soon as you drive off the lot. This is not the best investment to make, no matter how enticing that Tesla looks.

    People often opt for longer financing terms to get their payments down but you really end up owing more than the value of the car over time when you take out a loan that’s 5 or more years. In these instances, your loans are upside down and you have to buy gap insurance on top of everything. For those of you who want the luxury car and want a quick answer as to how to get it, the best thing to do is buy used. You can still get a warranty from the dealership. The car will look brand new and will likely only be a couple of years old. The best part is that you will save thousands of dollars while still getting the dream car. Now, that’s much more sensible than paying, say $10,000 more for the price of the car down the line.

    General Pros and Cons

    The way you go about buying your car is a very personal choice that is as much about finance as it is about lifestyle and habits.

    Obviously, the greatest benefit of buying a car is owning it one day. It’s an investment, one which depends on you to take care of it to keep its value high. You can sell it at any time you want or use it as a down payment in a few years towards your next new car.

    Leasing’s greatest benefit is that you have a brand new car ever few years, typically with a lower monthly payment, depending on the term limit you choose. If having the newest (or newer) model is something that is important to you, or if you simply get tired of driving the same car after a while, then the pros of leasing may outweigh the cons for you.

    Now that you’re educated on both types of buying, you should next think about insuring your vehicle properly. Note that the value of your car will greatly affect your rates. As mentioned above, leasing and financing a car often carry different insurance requirements. Whether you’re leasing or financing, you should contact an Auto Insurance Specialist at (888) 772-4247 or click here to get some quotes for the cars you’re considering buying.

    The information in this article was obtained from various sources. This content is offered for educational purposes only and does not represent contractual agreements, nor is it intended to replace manuals or instructions provided by the manufacturer or the advice of a qualified professional. The definitions, terms and coverage in a given policy may be different than those suggested here and such policy will be governed by the language contained therein. No warranty or appropriateness for a specific purpose is expressed or implied.