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Types of Vehicle Leases
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Leasing allows many drivers to roll off the dealership lot in a nicer car than they could otherwise afford to buy — nearly 30% of new cars are leased, according to Experian. But with so many types of vehicle leases to choose from, the process of leasing can be intimidating. But don’t worry, here we break down your lease choices and the pros and cons of each so you can make the best choice for you.
- What is vehicle leasing?
- Closed-end leases
- Open-end leases
- Subvented leases
- Single payment leases
- Used leases
- Short-term and long-term leases
What is vehicle leasing?
Vehicle leasing is when you pay to use a vehicle for a select amount of time, usually longer than one year and shorter than four years, a set number of miles typically between 12,000 and 15,000 miles annually, and then return it or buy it. The main advantage of leasing versus buying is a lower monthly payment; disadvantages include fees for things such as exceeding mileage limits.
The typical lease process. In most cases, to get a vehicle lease, you select a new car you want, apply to the leasing company through the dealership with the amount of time and miles you’d like to use the car, get approved, sign the lease, possibly make the first payment or a down payment, and drive away.
During the lease, you make monthly payments and keep regular full-coverage auto insurance on the car. At the end of the lease, you have the option to buy it or turn it in and walk away. The third option is to turn it in as a trade-in and get another car. If you do turn it in and the car has more miles than you agreed on in the beginning, or it has excessive wear and tear, you can be charged for it. Otherwise, you have no further obligations.
This is the most common type of vehicle lease. It follows the typical lease process described above and ends on an exact date. Say you agree to lease a car on New Year’s Day, Jan. 1, 2020 for a period of three years. You would have to turn it in by Jan. 1, 2023.
Pros. The vehicle’s price at the end of the lease is set, which protects the customer. See the example below.
Alice Smith wants to lease a $30,000 car for three years and the leasing company thinks that it will be worth $20,000 at the end of the lease. Alice signs a lease in which she will pay $10,000 to use the car for three years. Yet at the end of the lease, the car is worth only $15,000. Alice can buy that car for that price without having to pay the $5,000 difference and the leasing company takes the financial loss.
But if the car was worth more, say Alice’s car was worth $25,000 at the end of the lease, she could choose to still buy it for only $20,000. And again the leasing company takes the financial loss. In both cases, Alice is protected.
Cons. The potential downside to this particular type of vehicle lease is that you can be penalized for turning it in early or late. If you already have a lease there are a few tricks to get out of it early.
If you’re interested in leasing a car for your business, you might be considering this type of lease. Open-end leases don’t end on an exact date. Instead of a specific day being your deadline, you have a window of time in which you can turn in the car without being penalized for being early or late. The size of this window can vary. For example if you got an open-end vehicle lease for about two years beginning on Jan. 1, 2020, with a six-month turn-in window, you could turn it in any time between December 2021 and June 2022.
Pros. The obvious benefit of this is flexibility. You don’t need to have another vehicle lined up on the exact day that your current lease runs out, a day which you can’t change.
Cons. The drawback to an open-end lease is that the price of the vehicle at the end of the lease is not set. If the vehicle is worth less than predicted, you have to pay the difference between what the estimated worth was and it’s actual value to the leasing company. If it is worth more than predicted, you would have to pay that fair market price if you wanted to buy it.
This is a type of close-ended lease for which the leasing company gives a special discount. This discount could be on the interest rate, also called the money factor, and translates into a lower APR. Or it could be a rebate on the price of the vehicle, which translates to a reduction in capitalized cost.
Pros. Whether you take the lower interest rate or the rebate, you pay less.
Cons. Usually you must have a high credit score in order to qualify for a subvented lease.
Single payment leases
In this type of vehicle lease, instead of making payments, you pay the entire amount for the lease up front. You might be able to combine this type of vehicle lease with other types. For example you may be able to do a single payment, subvented, close-ended lease.
Pros. This is usually a less expensive way overall to lease a vehicle. Otherwise, you’re spreading out payments over time and thereby paying more in interest. But if you don’t have to make payments, you don’t have to pay interest.
Cons. To do this, you need to be able and willing to pay the entire amount up front, which could amount to several thousand dollars. Not everyone has an amount of money this large that they are willing to spend all at once for a car lease.
It’s not as common as leasing a new car, but used car leasing is available. You might be able to find a used car lease from a dealership, from a current leaseholder, known as lease swapping, or from a used car lot. You would still have to be approved by a leasing company, but credit requirements for a used lease may not be as strict as those for a new lease. You could read more about used car leasing here.
Pros. It has lower payments compared with new car leasing due to a lower sticker price and slower depreciation, plus comprehensive auto insurance and taxes should be less expensive as well.
Cons. If the car is out of warranty, any cost of repairs will probably come from your pocket.
Short-term and long-term leases
Short-term and long-term vehicle leases are exactly what they sound like — they refer to the shortest or longest terms possible for the types of leases we described earlier. Short-term leases tend to be shorter than two years and long-term leases tend to be longer than four years. Keep in mind that not all leasing companies offer all terms.
Pros. Short-term leasing may be an option if a car rental would cost more. Long-term leasing may be an option if you don’t want to deal with selling a car when you are done with it or you want to keep your car payments down.
Cons. Short-term leases are usually an expensive way to get a car, as most of the depreciation happens within the first year of use. With an average-term or long-term lease, you are spreading out the cost of that depreciation over time, but with a short-term lease, you are paying for the steep price drop as it happens. Payments on a short-term lease are usually higher than those of other leases.
For long-term leases, you are practically paying the entire price of the car, and then walking away without ownership at the end of the lease. This isn’t necessarily a smart thing to do, unless you use a long-term lease to keep your monthly payments down and then buy the car at the end of the lease.
The bottom line
Choose the vehicle lease that’s right for you and don’t be afraid to ask “dumb” questions. The type of lease you get should match your needs and your budget. If you want to read up on car leasing basics more in-depth, check out how leasing a car works.