Car financing or leasing is always a tricky decision. In many cases, it is a better choice to finance a car for several benefits that a lease cannot offer.
Let us guide you through the analysis and help you make the right decision with a car financing or leasing challenge.
What is a Car Lease?
Car leasing is a contract between the lessor and the lessee that gives rights of car usage to the lessee for specified terms.
It is like renting a car for a longer period. You take the car from a dealer and sign the contract for a specified period. You never own the car with a lease contract.
During the lease term, you make monthly payments to the car dealer. However, you never pay the full purchase price of the car.
With a car lease, you do not need to worry about the interest or principal amount of the car. You are only liable for the monthly payments during the lease contract term.
What is Buying or Financing a Car?
Financing a car is a loan agreement between the buyer and the lender. Both parties agree on loan terms like APR, down payment, monthly installments, and loan tenure.
At the end of the loan term, the buyer owns the car. You have to pay the car price plus interest on that amount as you make monthly installments rather than paying in full.
Your finance contract will include the minimum required insurance. You can always purchase premium insurance plans for extra coverage.
Financing terms depend on your credit score, monthly income, and your debt-to-income ratio as major factors affecting the deal.
Let us now consider what are the advantages and disadvantages of these options.
Advantages of a Car Lease
Some key advantages of a car lease include the following points.
Low Down Payment
Lease contracts require one month’s installment in advance. It also requires some cash deposits as security.
You get the security deposit back at the end of the lease term after adjustments for any discrepancies with the lessor.
Low Monthly Installments
You are not paying for the full price of a car plus interest on it. So, the monthly installments on a car lease will be lower usually.
It means you can check your affordability and even apply for a newer and more luxurious vehicle than you could afford with financing.
You Get a Newer Car Model
Car leases come with newer models typically. You get a newer car to drive with low mileage consumed.
Depending on your affordability, you could lease a brand-new car as well.
Replacing a Leased Vehicle is Easy
You can negotiate a car replacement with the dealer at any time. However, leasing a newer car would affect your monthly installments.
Lowe Maintenance Costs
Newer car models come with manufacturer warranty terms. Check with your dealer if your leased car is still under warranty.
However, you may have to cover other types of maintenance costs that are not included in warranty or insurance coverage plans.
Disadvantages of a Car Lease
A car lease has some downside risks as well.
Mileage Limit
You can’t drive a leased car as much as you want. Dealers always put a mileage limit on your leased vehicle.
If you exceed that limit, you pay extra for that. Else, you’ll need to renew the lease contract if you wish to drive the same car for a longer period.
Zero Cash Value
The biggest drawback of a lease contract is that you don’t get a residual value of the car. Unlike financing, you cannot sell the car as you never owned it.
So, it means you are not building equity with a lease term.
Higher Credit Score Requirement
Typical lease contracts require a higher credit score from applicants. Experian reports that the average credit score requirement for a lease contract is 720.
Lease contracts are also limited as not many car dealers offer them.
Car Usage Restrictions
Some car dealers will put restrictions on car usage as well. If you want to drive out of your state, you may need written permission.
Similarly, if you need to fix the car for repairs, you cannot get it done by any mechanic.
Lease-End Payments
Even when you carry out regular maintenance and fix repairs, you may get a surprise deduction at the end of the lease agreement.
The car dealer will perform a thorough car inspection and would deduct for any further maintenance or over-usage.
GAP Insurance Cost
Car leases also require GAP insurance. That additional cost is included in your monthly lease payment usually.
Advantages of Car Financing
Car financing has some key advantages.
Car Ownership
The biggest advantage of car financing is to own the car at the end of the loan term. Technically, you’ll own the car when you pay the full amount of the car loan.
You start building the car equity with your first payment and gradually increase it with every payment you make.
Unlimited Usage Rights
Unlike a leased vehicle, you can drive a financed car as much as you like. There is no mileage restriction on a financed car.
However, some lenders may restrict you from taking the car out of the country without written permission.
Residual Value
Financed cars lose value the moment they hit the roads. However, at the end of the finance term, the car has a residual value.
You can use this value to sell the car and get cash or use it for a trade-in for a new car.
You Can Sell at Any Time
You can sell a financed car at any time during or after the loan term. If you sell it before repaying the full loan amount, you must contact your lender.
However, a finance contract gives you the freedom to sell the car at any time.
Easier Financing Requirements
Car financing deals are everywhere. You get a lot of 0% APR deals and cashback promotions as well.
Lenders often accept loan applications with a bad or average credit score as well.
No Payments after Financing Term
Once you repay the total loan amount, you no longer need to make the monthly installments.
Unlike the lease contract, you do not need to pay forever with a car loan.
Disadvantages of Car Financing
Car financing has some limitations as well.
Large Down Payment
You need a large down payment when applying for a car loan. Some lenders require as much as 20% of the total car price as a down payment.
The down payment amount will affect your remaining loan amount and hence the loan terms.
Expensive Deal
Monthly loan installments are always higher than lease payments. You pay for the price of the vehicle plus the interest cost.
Also, if you make a small down payment, your monthly installments will increase.
Interest Cost
You pay the car price plus the interest cost because you don’t have the money upfront. Some buyers opt for an extended loan tenure that incurs more interest charges.
Generally, if your credit score is low, you decide on a long loan term and make a small down payment, you’ll pay more interest.
Maintenance Costs after Warranty Period
Your new car warranty will expire at one stage. Even during the warranty period, not every type of car maintenance is covered under it.
Thus, you’ll have to consider the significant car maintenance and additional insurance costs as well.
Why Car financing is Better than Leasing?
Financing a car is almost always better than leasing a car. Let’s wrap up the key points to show you how financing is a better choice than leasing a car.
| Criteria | Finance | Lease |
| Ownership | You own the car with a finance deal at the end of the loan term. | You never own the car at the end of the lease term. |
| Upfront Payments | Down payments with a finance deal are larger usually as high as 20% of the car price sometimes. | You only pay one month’s installment and security deposit as advance. |
| Monthly Payments | If you opt for a longer loan term, you pay lower monthly installments. | Monthly payments with a lease term are usually lower but incur additional costs like maintenance and GAP insurance. |
| Contract Termination | You can sell or trade in the financed car and amend the loan term easily. | You cannot terminate the lease term as it is a binding contract and you may have to pay for the remaining lease terms as well. |
| Residual Value | You build equity with a finance term from the first payment. At the end of the loan term, the residual value of the car is yours. | There is no residual value or cash benefit for you at the end of a lease contract. |
| Mileage Limits | You don’t have to count miles when driving a financed car. | A leased car comes with a mileage limit. |
| End of Term | Your only cost at the end of the loan term is any remaining monthly installments. Else, it will be zero. | You get a surprise bill at the end of the lease term for maintenance and insurance costs. |
| Vehicle Customization | You can customize the vehicle as you like at any time during the finance term. | Car dealers don’t allow vehicle customization with a lease term. |
