You’re getting ready to get a new car, but you’re wondering if it’s better to buy or lease one–and which will save me the most, tax-wise. I get this question every year and I’m here to tell you what the car dealers don’t want you to know, and which is better for your pocketbook.
How the Car Dealer “Gets” You
First things first, car dealers are in the business of making money. They do that by hoping you don’t ask many questions, and by confusing you with car jargon that you don’t understand.
They use words such as: Money Factor, Rent Charge, Capitalization Cost Reduction, Residual, etc. Some of you may know what some of these words mean, but I’m guessing that most of you don’t know what all of them mean.
And if you don’t know what to look for, and you don’t understand the words, then it’s easier for them to take advantage of you. I’m going to tell you what they don’t want you to know, so you don’t get screwed.
When Leasing a Car is Worse
Leasing a car is almost always a worse monetary decision. When you are buying a car, they tell you everything up front: the interest rate, your monthly payment, how much to put down, and when the car will be paid off.
When you lease a car, they use car lease words to confuse you. And one of Romeo’s Rules is, “If it’s overly confusing, somebody’s trying to screw you.”
Here are the words you must know if you decide to lease a car:
A word germane to auto leases. Basically, the dealership knows that after 3 years the car will depreciate (be worth less over a period of time) so they charge you interest. But instead of using an interest rate, they use something called the Money Factor. Why? So you won’t know what’s going on. Also, you will probably never see the Money Factor on your lease contract (once again, not an accident). If you are getting a lease and can get them to provide you with the Money Factor, you can convert it to an interest rate you multiply it by 24. (e.g., if your money factor is 0.25% your interest rate will be 6%. They use the money factor to determine your Rent Charge (another word you’ve probably never heard of.)
Another sneaky word that is used by car dealerships. Your Rent Charge is the interest you pay them during the term of your lease. They don’t call it interest because if you see a line on your contract that says $16,000 interest, you may think twice. But if you see Rent Charge, you will be confused and might sign the contract anyway.
Capitalized Car Reduction
This is a fancy word for down payment. Why don’t they use the word down payment? For the same reason they use the word Rent Charge. Hoping you don’t know what’s going on.
This is the word most people know. The residual is the amount you would pay at end of your lease if you decided to buy the car.
Don’t forget, when you lease a car, they also charge you for any miles you drive over the contract limit (called Mile Restriction) and will charge you for any additional “dings” the car may have when you’re returning it. Also, if you lease an EV, you’re not entitled to the EV Tax Credit, since that’s only available if you purchased a car*.
*However, the dealership may be entitled to the EV credit themselves on leased EVs, so ask if they can lower your lease payments or Capitalized Cost Reduction by $7,500.
After you know all the numbers and figures for the words above, you can then calculate your monthly lease payments, and decide if leasing is worth it. Usually it’s not since you lose your downpayment when you lease a car.
This example is from the Federal Reserve’s website, here:
When is it Better to Lease a Car?
Since usually it’s a worse monetarily decision, why do people still lease?
For lots of reasons. Here are some of the pros:
- No maintenance or repairs out of your out pocket,
- Your downpayment is usually less,
- Your monthly payments are usually less,
- You get a brand-new car every few years,
- You don’t have to worry about selling the car when you’re finished with it.
Bottom line, if you’re the type of person that likes driving a brand-new car every few years, and don’t want the hassle of maintenance, then leasing a car is a better life-style choice.
Taxes: Leasing vs Buying
The big question is, which is better tax-wise? There are a lot of things you need to consider first. I wrote an article about it here. But the TLDR what you need to know first is:
- What is the weight of the car?
- Is it an SUV?
- Are you using it for more than 50% of business?
- How many miles did you drive last year?
All these things are taken into consideration to calculate your deduction if you’re buying a car. When you lease a car, the IRS only cares about your mileage rate, and business use percentage.
You need to look at all these factors before a CPA can tell you which way is better to save on taxes. In general, if you’re buying a car that is over 6,000 lbs. and you are using it for more than 50% business, it’s better to buy it for better tax write-offs, but not always. Check with your CPA first.
What do I do if I’m Still Not Sure?
Get all the numbers and contracts for both the lease and for buying a car from the auto dealer first. Once you get all the numbers, you can then make a better decision. Keep in mind that that auto dealership will not want to give you most of the numbers regarding a lease, since that is where they make most of their money. But the best thing to do is go over everything at home, when you’re alone, so you don’t have to deal with the pressure of car dealer hovering over you when you’re making this decision.