SHOW NOTES: 2019-02-14 MiM

Posted on February 14, 2019 in Blog, Money in Motion Show Notes

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Last Week’s Question of the Week: How many tax returns does the IRS expect to file for the 2018 Tax YEAR? Is it 100,150, or 210 million?

ANSWER: The Internal Revenue Service (IRS) expects to process more than 150 million individual tax returns for the 2018 tax year.

HOST: I know you specialize in retirement planning, but I assume you get questions from your clients as to which is better, to lease or buy a vehicle when people are trying to decide?

KLAAS FINANCIAL: Yes, we are asked this question quite often because, as we love to say, “it depends on your situation.”

You should understand the pros and cons of both buying and leasing to see what works best in your current situation. Leasing a vehicle is not what is used to be. A number of converging trends have changed the leasing landscape for the average consumer. Car leasing was once an option reserved for businesses and customers wanting luxury cars. Today it’s common in all classes of the market, from subcompact cars to pickups and luxury SUVs. About three in ten new cars that leave dealer lots are leased.

On one hand, buying involves higher monthly costs, but you own something in the end. On the other, a lease has lower monthly payments, but you get into a cycle where you never stop paying for a vehicle. An interesting statistic suggests that over 30% of new cars in the U.S. were on lease in the first and second quarters of both 2017 and 2018.

We thought we examine some fundamental differences between buying and leasing so our listeners can be more knowledgeable in this area when their big decision comes up.

  • First, we ALL know that vehicles that we drive (vs. “collector cars”) are NOT good investments due to the fact that the depreciation begins as soon as we drive the car off the car lot. In the first year of owning a car, we know that our car depreciates 10%. But knowing this doesn’t change the fact that most of us will likely own or lease a car into our 80s or even 90s.
  • Still the most common popular way to acquire a vehicle is to purchase a car, you pay the entire negotiated price of the vehicle using cash, financing, the value of your trade-in, or a combination of all three. If you buy a $30,000 SUV, for example, you have to pay $30,000. Spending that amount usually involves a down payment, your trade-in, and an auto loan.
  • When you purchase and finance a car, the lender holds the title until you pay off the financing, then you will own the vehicle free and clear. Financing a vehicle involves getting a car loan from a lender such as a bank, credit union, or finance company. You pay down the amount of the loan (its principal) and the interest in a series of equal monthly loan payments. The length of an auto loan is called its term, and loan terms commonly vary from a few years to seven or eight years.

HOST: What are some of the biggest differences between buying and leasing?

KLAAS FINANCIAL: These are some of the most noteworthy differences:

  • Ownership. when you are buying you obviously own the vehicle as long as want to keep it. With leasing, you don’t own the vehicle (like renting) you get to use it, but you must return it at the end of the lease UNLESS you decide to buy it.
  • Up-Front Costs. Buying is the cash price, the down payment, taxes, registration and other fees. Leasing includes the first month’s payment, a refundable security deposit, an acquisition fee, a down payment, taxes, registration etc.
  • Monthly Payments. Loan payments are usually higher than lease payments because you are paying off the entire purchase price of the vehicle plus interest and other finance charges, taxes and fees. Lease payments are almost always lower because you’re only paying for the vehicle’s depreciation during the lease term, plus interest charges, taxes and fees.
  • Want to change vehicles? You can sell or trade your purchased vehicle at any time. When you own your car you will have to deal with selling it on your own, or trading it in…whereas with a lease you simply return it at the end of the lease, pay any end of lease costs and walk away. In a lease, if you end the lease early, charges can be as costly as sticking with the contract.

    • HOST: What happens when you are done with your car under these different scenarios?

    KLAAS FINANCIAL:

    • Future Value of your car: Your purchased vehicle does depreciate, but you do own the equity. In a leased car situation, its future value doesn’t affect you financially, conversely on the negative side, you don’t have any equity.
    • Mileage: When you own the car you are free to drive as many miles as you want. But keep in mind that higher mileage lowers the vehicle’s trade-in or resale value. Most leases limit the number of miles you may drive, often 12,000 to 15,000 per year. (You can negotiate a higher mileage limit.) You’ll have to pay charges for exceeding your limits, but they aren’t usually unreasonable.
    • Excessive Wear and Tear: When you own the car, You don’t have to worry about wear and tear, but it could lower the vehicle’s trade-in or resale value. Most leases hold you responsible. You’ll have to pay extra charges for exceeding what is considered normal wear and tear.
    • End of Term: At the end of the loan term, you have no further payments and you have built equity to help pay for your next vehicle. At the end of the lease (usually two to three years), you can finance the purchase of the car, or lease or buy another.

    HOST: So, what would you say are the real benefits of leasing then?

    KLAAS FINANCIAL:

  • Lower Monthly Payments. While it’s never a good idea to base your decision on monthly lease payments alone, finding a payment that fits into your monthly budget is important and leasing can provide for that. By leasing, you may be able to get a nicer car or afford a few extra options for the same monthly payments as you would have if you were buying.
  • Latest Tech. By leasing, you may be able to get a nicer car or afford a few extra options for the same monthly payments as you would have if you were buying. The latest models are loaded with advanced safety features and advanced driver assistance technology, such as automatic emergency braking, adaptive cruise control, lane keep assist, and semi-autonomous driving systems.
  • Fuel Economy. Depending on the vehicle you lease, you can find a model with better fuel economy than similar models from just a few years ago.
  • Warranty Coverage and Maintenance. Unless you are putting a lot of miles on your new ride, it will be covered by the manufacturer’s warranty for the entire time that you’re driving it, since the term of most leases is just a few years. You don’t have to worry about the cost of expensive repairs, as your dealership’s service department should take care of any problems that occur. That gives you a low and predictable total cost of ownership, with few unexpected out-of-pocket expenses.
  • Lower Down Payment. When you lease, you’ll often have a smaller down payment than if you buy. In fact, some leases require nothing due at signing. Many experts advise that you negotiate the lowest amount due at signing as you possibly can.

    • HOST: Which is more expensive in the long run?

    KLAAS FINANCIAL: Most likely the lease, but that depends on the type of car, how long you generally keep a car, and how expensive the maintenance costs become.

    Back in September of 2017, Consumer Reports did a comparison of a car loan vs. lease comparison of a hypothetical purchase of a $30,000 Mazda at 2.9% financing. What they found was that after three years, the purchase scenario cost the consumer $4,600 more than the leased vehicle, and after 6 years, the total paid out still showed that the purchased car had cost $7,200 more out of pocket than the leased vehicle. When you also factor in the resale value of the owned car at year six — which was about $9,675 — there was only a delta of $2,400 of real dollar value associated with the purchased car.

    HOST: Any specific leasing language we should be aware of?

    KLAAS FINANCIAL: Yes, changes in your filing status are important. If you got married, divorced or lost a loved one, your tax filing status has changed. Did you have a child (tax deduction) or maybe one of your children is now out on their own? Can you still deduct for them? Remember, this will affect their tax forms as well. In any of these cases, it is a good idea to schedule an appointment with your accountant now for a future date when you think you will have all of your documents.

    HOST: What if I need to file an extension for my taxes, what should I know?

    KLAAS FINANCIAL: Yes, there are three terms you should be familiar with.

    1. Capitalized Cost: The capitalized cost (or cap cost) is essentially the price of the vehicle. You should negotiate this price just as if you were buying the car. Any discounts off the capitalized costs, such as special lease deals from automakers, are called “cap cost reductions.”
    2. Residual Value: A vehicle’s residual value is its expected value at the end of the lease period. It is rarely negotiable.
    3. Money Factor: In the language of leasing, the money factor represents the rate of interest that you will pay. To convert the money factor to a more familiar annual percentage rate, multiply it by 2,400. You can do the math yourself, or rely on an online money factor converter to do the interest rate conversion for you. The amount you pay for leasing a vehicle is the capitalized cost minus the residual value, plus interest (based on the money factor) and several fees, including lease origination and vehicle registration costs. For example, if you lease a pickup truck with a capitalized cost of $40,000 and a residual value of $25,000 after three years, you’re responsible for paying $15,000 plus interest and fees.

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    Catch C.J. Klaas and Maleeah Cuevas on Money in Motion every Thursday on Madison's 1310 WIBA from 8:05-8:35am.