The math of leasing a car is pretty simple. The carmaker guesses how much the car will be worth once the lease ends. This value is called the "residual" value. (You and I know it as the used car value; it's the price that a leaser can purchase the vehicle for at the lease end, the "buy out price.") Once the carmaker sets a residual price, the dealer who is leasing to the customer sets the monthly payment amount. This amount is based on the difference between the car's selling price and its estimated residual value - the smaller the difference, the smaller the monthly payment.
Many customers love leasing because it allows them to drive a car they may not have been able to afford otherwise. As it turns out, however, leasing has not benefited automakers.
According to CNW Marketing Research, automakers lost an estimated $10 billion last year in the U.S. from lower-than expected residuals. Another group reports that last year, leasing companies lost an average of $2,914 on every car returned to them. That's up from $2,550 in 2000.
Even if a leasing company did not inflate the residual value, it is still being forced to take losses now because the value of used cars has dropped. Here is why: Auto makers managed to make leasing a popular option - leased cars comprised roughly 4 percent of sales in 1980 and over 30 percent by 1999. As leasers returned their vehicles to dealers, they created a glut of barely-used cars. This supply drove down the price. Thus, a 1998 Toyota 4-Runner whose buy-out price was set at $26,500 was only worth $23,000 last June.
The glut promises to continue as 3.1 million leases end this year, rental car companies pare back their fleets and drivers who binged on no-interest new car deals trade in their cars.
Also remember that when banks and finance companies take back a car at lease end, they typically sell it at a wholesale auction. At auction, dealers pay below retail prices, the companies incur a time delay in receiving the money and they must pay costly auction commissions. So, for many reasons, leasing companies would prefer that you buy out your lease.
Armed with the knowledge that banks and finance companies are losing money on leased cars, consider buying your leased vehicle. Companies want you to believe you must pay the residual price as stated in your contract, but now you know that they are ready to bargain.
Do your homework and find the fair market value of your car. Good places to check include: Edmunds.com, Kelly's Blue Book, Autotrader.com and Carfax.com.
Play the waiting game and don't take no for an answer. As the lease end-date nears, finance companies become more willing to compromise. Often, their "best and final" price is lower with each conversation.
Recognize your bargain potential. Realize that not everyone is willing to haggle. The leasing arms of big automakers such as GM are less likely to strike a deal than individual finance companies and banks. The automakers don't want to undermine relationships with dealers and they would prefer that you return and buy a new vehicle.
Aside from receiving a great deal on a car, there are other reasons it may make sense to buy out a lease:
Low interest loans: Many companies will offer a low interest used car loan in an effort to get you to buy.
Insurance savings: Lease contracts typically require the highest limits for liability, comprehensive and collision coverage and lower deductibles. Insurance premiums saved by reducing this coverage can total up to $700 a year.
A safe buy: You are receiving a car that you know is in good shape. You've been the only owner and most lease deals come with a regular maintenance program.
How does all of this affect people who are considering entering a lease now?
The auto industry is making it much more expensive to lease - particularly high-priced models such as luxury sedans and SUVs. In March, GM announced it planned to reduce its leasing programs. All automakers agree they don't want to return to the leasing levels of the late 90s.
As a result, according to "The Washington Post," leasing levels have been cut in half since October.
If your finance company is unwilling to strike a deal, or you decide you just don't want to buy your leased car, this is also a great time to buy a used car. As mentioned above, there's a glut of used cars out there and prices have dropped by as much as $2000 to $3000 in past months.