Is Auto Leasing a Good Idea?

To lease or to buy? When you buy a car, you own it. When you lease, you pay to drive someone else’s vehicle. However, leasing can involve lower monthly payments than a loan. At the end of the lease, though, you have no ownership or equity in the car.   Many dealers and other lessors offer vehicle leases. Before you decide whether to lease or buy, remember — don’t be dazzled by so-called deals. Ask questions, nail down the details, read the fine print and shop around.

 

If you’re thinking of leasing, the Federal Trade Commission offers these shopping tips:

 

• Shop as if you’re buying a car. Negotiate all the lease terms, including the price of the vehicle.  Lowering the lease price will help reduce your monthly payments.  Get all the terms in writing.

 

• Learn the language of leasing.

 

o   In a closed-end lease, you return the car at the end of the lease and walk away, but you’re still usually responsible for certain end-of-lease charges, such as excess mileage, wear and tear, and disposition. In an open-end lease, you pay the difference between the value stated in your contract and the lessor’s appraised value at the end of the lease.

 

o   Lease inception fees are payments you make before the lease starts. They may include a down payment, security deposit, acquisition fee, first month’s payment, taxes and title fees. Ask for a list of all charges due at lease inception. You may be able to negotiate on the terms.

 

o   The capitalized cost is the price of the car for leasing purposes plus taxes and extra charges like service contracts and registration fees.

 

o   The capitalized cost reduction is similar to a down payment. If you’re trading in a car, make sure the dealer applies the trade-in value to the price your lease is based on. The trade-in credit may reduce your down payment or monthly payments.

 

• Ask whether extra charges will be assessed for excessive mileage, wear and tear, disposition and early termination, and find out the amount of these charges. Most leases allow you to drive 12,000 to 15,000 miles a year. If you put on more miles, expect a charge of 10 to 25 cents for each additional mile. You may think the ding in the door or coffee stains on the upholstery are normal wear and tear — to the lessor, it may be significant damage. Check out penalties for an early return and expect to pay a substantial charge if you give the car up before the end of your lease.

 

• Make sure the manufacturer’s warranty covers the entire lease term and the number of miles you’re likely to drive.

 

• Consider gap insurance to cover the difference — sometimes thousands of dollars — between what you owe on the lease and what the car is worth if it’s stolen or totaled in an accident.

 

• Before you sign the deal, take a copy of the contract home and review it carefully away from any dealer pressure. Be alert for any charges that were not disclosed at the dealership, like conveyance disposition and preparation fees.

 

• Federal law requires lessors to provide lease cost information before you sign the lease. Take a copy of the attached form to the dealer and ask them to complete it. Some dealers may be willing to provide the information during your shopping process. If the dealer declines, consider shopping elsewhere.

 

For more information about buying or leasing a car, visit the FTC’s Web site at http://www.ftc.gov/bcp/menus/consumer/autos.shtm.   To file a complaint or to get free information on consumer issues, visit http://ftc.gov or call toll-free, 877-FTC-HELP (877-382-4357); TTY: 866-653-4261.

 

Adapted from “Look Before You Lease,” (Federal Trade Commission, May 2003), http://www.ftc.gov/bcp/edu/pubs/consumer/alerts/alt005.shtm

(accessed October 6, 2010).

 

Brenda Procter, M.S.

Associate State Extension Specialist & Instructor

Personal Financial Planning Department

College of Human Environmental Sciences

University of Missouri-Columbia

162 Stanley Hall

Columbia MO 65211-7700

Phone: 573-882-3820

Fax: 573-884-5768

E-mail: ProcterB@missouri.edu

http://MissouriFamilies.org

 

Seeking Shelter

Many of you are aware of the nervous US investor and how their flight to safety during the past two years has driven them increasingly toward bonds and away from stocks.  This is true regardless of the long-run track record of stocks and the trend toward lower yields for bonds caused by the increasing demand for bonds by both the government and investors.  As market yields fall, the value of outstanding bonds will increase.  Why?  Take the following example.  A $1,000 face value bond with 30 years to maturity which pays the investor $40 per year (usually paid as $20 every six months) will be worth $1,000 if market yields are 4%.  If market yields fall to 2.5%, however, that same bond would be worth $1,314.  This has been the picture we’ve seen over the past few years and is essentially what has occurred in markets from April 2010 (when the Treasury Rate were close to 4%) to today, when Treasury rates are 2.45%, the lowest they have been since December of 2008. 

 

We need to ask ourselves, what would happen if interest rates increase?  We can answer that by taking the above example and turning it around.  The 4% coupon rate bond that is worth $1,314 today will be worth $1,000 if rates return to 4%, resulting in a 24% loss in value. So, what should an investor do to protect their portfolio from rising rates of interest?  Here are a few options…

 

Treasury inflation-protected securities (TIPS) – An alternative to Treasury bonds that pay a fixed coupon rate of interest are bonds that pay a lower fixed rate of interest, set at initial auction, and whose principal value is adjusted according to changes in the consumer price index.  Thus, a part of the gain is interest – fixed – and a part is variable depending on the rate of inflation.  Since inflation is the most likely driver of higher interest rates, TIPS can provide protection from rising rates – though the rate set at auction will not change.  For more information, see:  http://www.treasurydirect.gov/indiv/products/prod_tips_glance.htm .

 

Dividend paying stocks – Near the end of August, AT&T had a preferred stock that paid a dividend yield of 5.94%, a bond maturing in 2029 that paid 5.49%, and AT&T’s common stock had a dividend yield of 6.24%!  Moreover, there is a promise to pay the interest on the bonds, before paying the preferred stock dividend, and a promise to pay the fixed preferred stock dividend, before paying anything to the common stock holder, yet a move toward dividend paying stocks might have benefits.  ( AT&T has the greatest dividend yield in the Dow Jones Industrial Average and may point to the risk that investors might be factoring into AT&T’s future, but it is instructive.   Yesterday, the dividend yield on AT&T was 5.80%, but the price of the stock has risen from $26.94 to $28.94 over the past few weeks.) 

 

In the early part of this decade, when interest rates increased, we saw equity-income stocks (or, mutual funds that focus on these stocks) increase significantly, when Treasury yields rose.   Currently, the average dividend yield for the stocks that pay a dividend in the DJIA is 2.82%, while 10-year Treasuries are yielding below 2.4%. At the same time, the value of the ownership interest, represented by the stock, could increase.  If you decide to buy stocks for income, you must remember that the dividends may cease at any time.  Thus, you need to be mindful of the quality of the company and the likelihood the dividends will continue.  You may want to simply look for an equity income index fund or ETF to provide the management expertise, while trying to minimize the costs associated with this tip.  (This site is interesting: http://www.indexarb.com/dividendYieldSorteddj.html )

 

Convertible Bonds – Convertible bonds are bonds that pay a fixed semi-annual rate of interest, lower than the rate paid on bonds that are non-convertible.  In exchange for the lower rate, they grant the holder of the bond the right to convert the bond into the common stock of the company.  The result is that convertible bonds tend to move in a positive direction to changes in the economy, while providing income, though less than non-convertible debt, until the owner is forced to convert the debt into common stock.  (I say “forced” because the holder of convertible debt should not voluntarily convert.  To do so, removes the “floor price” of the convertible debt when valued as debt, while the value of the convertible as stock will always be worth the conversion value, if the stock price continues to increase.  If you need the money from an appreciated convertible bond, just sell the bond.)  There are mutual funds that specialize in convertible bonds.

 

I know this is a lot of information for a “Financial Tip of the Week”.  Thus, I’m going to stop writing.  Other options might be high-yield bonds, floating-rate debt, cash, commodities, or real-estate income producing properties.  Each comes with unique risks.  Yet, as we see, the retail investor (you and I) are buying, buying, buying bonds and bond funds and selling, selling, selling equities and common stock funds.  The crowd is usually wrong and they often arrive late to the shelter, after the storm has hit.  I do not know the future for our economy and our world.  All I know is that disciplined diversification, with low-cost investments, allows anyone to find financial success in the “loser’s game”.  Diversification essentially means that you need to learn to embrace the systematic risks of investing (those that cannot be removed through diversification), rather than cower from them.  Charles Ellis wrote his book Winning the Loser’s Game in the early 1990s[i].  His thesis about low-cost diversified investing remains true today.  While past performance does not predict the future, we can still learn from it. 

 

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[i] Charles Ellis’s original article, published in 1975, appears here:   http://www.ifa.com/pdf/EllisCharlesThe_Loser's_Game1975.pdf .  His book continues to be sold.