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Leasing Vs Buying A Car (Pros and Cons) | How to Calculate a Car Lease Payment - YouTube
Channel: Next Level Life
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Well, yet another week and yet another Finance
Friday video.
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So as I said last week the car is the most
expensive purchase most people make that goes
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down in value.
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Now with that in mind wouldn't it make sense
that you wouldn't want to make a big purchase
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on something that is almost guaranteed to
go down in value?
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What if you didn't actually buy the car at
all?
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Would that be better for your financial Foundation?
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That's what we're going to be talking about
today as you can see by the title of the video
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today we're going to be talking about leasing
versus buying a car.
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Hey everyone, Daniel here and welcome to Next
Level Life a channel where you can learn about
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Investing, debt, retirement, and many other
general financial education videos because
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the school's aren't going to do it for us.
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So if any of those topics sound interesting
to you or if you want to learn how to better
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handle your money and have more financial
freedom be sure to hit that subscribe button
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and the bell next to my name to be notified
every time I upload a video.
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So I thought talking about this would be a
good follow-up to last week's video on the
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20, 4, 10 rule.
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So today I'm going to be talking about what
leasing a car is and how it differs from buying
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a car, some of the benefits and downsides
of both Leasing and buying.
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I鈥檒l show you how a car lease payment is
calculated and then doing a bit of a mathematical
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comparison between the two options where I
will also tell you how Dave Ramsey says that
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car leases charge you an effective interest
rate of about 14% or 15%.
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This is going to be a bit of a longer video,
so let's get started.
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So first let's define the difference between
Leasing and buying a car.
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The best way that I can explain it is to say
that leasing a car is basically just renting
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the car.
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Similar to how you might decide to rent an
apartment instead of buying a house.
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When you lease a car the lessor or the person
holding the lease rents the car to the lessee,
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or you, for a specified period of time in
return for periodic payments.
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Now that sounds in many ways very similar
to what happens when you sign a car loan right?
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You got the car in return for making regular
payments to the loaner.
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The difference, of course, is that once you
finish paying off the car loan you own it.
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However, when you lease a car and the lease
term ends you trade the car in and assuming
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you sign another lease you get a new one.
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This means that at no point in time do you
actually own the car.
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It is never an asset for you.
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Whereas if you were to sign a car loan and
make payments the car would be an asset to
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you after the final payment is made.
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Now, of course, you can decide to purchase
the car that you least out right at the end
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of the lease, that is an option, but not a
whole lot of people do that and we'll get
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to why that is later in the video.
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But first, let's talk about some of the benefits
of leasing a vehicle.
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The first benefit that people often point
to is that under most circumstances unless
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you make a really big down payment when you
buy a car the monthly payment on a lease is
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generally going to be lower than the monthly
payment on a car loan.
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And again I will show you exactly why that
is when I get to the comparative example but
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for now, let's just go through the benefits.
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The second benefit that people often pointers
that there's no need to worry about selling
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your car at the end of the lease term because
when the lease term ends as I said is simply
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drop the car off at the dealership and either
sign a new lease or move on to some other
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car buying strategy.
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The third benefit to leasing that many people
point to is that the car often times remains
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covered under a warranty because the lease
terms generally don't last more than say 3
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or 4 years and sometimes they're even shorter.
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And since the warranty on most cars is roughly
the same as the lease length or at least the
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average lease length you often times have
a more predictable total cost of car ownership.
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And some leases may even include basic maintenance
so if that's the case you're only cost would
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be insurance and fuel.
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The fourth benefit that many people going
to is the small down payment that is required
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for a lease.
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And you could argue whether or not that's
really a benefit but we'll get to that later
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in the video.
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But for those consumers who don't have a lot
of money saved up for a downpayment, it often
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seems like a good benefit.
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And obviously when you're leasing cars every
few years you always have access to at least
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nearly the latest technology if not the latest
technology goes your car is new.
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And for many, this is a huge benefit.
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The last benefit that people often point to
when it comes to leasing versus buying a car
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is the potential tax savings that you may
experience.
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Although you'll definitely want to check with
a tax professional to find out how leased
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vehicles are taxed in your area because it
does vary from place to place so that may
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be a benefit and may not be a benefit depending
on your situation.
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The downsides to leasing a car are of course
the rules and restrictions that seem to pop
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up all over the place.
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Depending on your lease you may have mileage
restrictions, excess wear-and-tear fees, ride-sharing
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restrictions, the need to have excellent credit,
and possibly even the need to purchase gap
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insurance.
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Typically you will have mileage restrictions
on leases between 9,000 and 15,000 miles per
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year and if you go over that you get charged
a pretty hefty excess mileage fee which can
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range from $0.20 a mile to a $0.25 a mile
or maybe, even more, depending on what it
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says in your lease.
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Now of course I'm told from people who have
leased cars that they don't generally check
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the amount of Miles you've driven each year
but rather if it's say a 3-year lease and
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you have 15,000 miles per year that you're
allowed to drive they will check it at the
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end of the lease and see if you went over
45,000 miles and if you did they will charge
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you for the extra miles at that point.
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I have not ever released a car so I have to
go with what I've heard from people who have
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and that's what they've said.
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As far as the excess wear-and-tear fees go
I'm told that some wear and tear is to be
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expected you won't be charged for every minute
thing but you are expected to return the car
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in nearly its original condition and any customization
that you have put on the car needs to be easily
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removable.
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And in some places you'll also have to be
able to show that all recommended Services
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were performed on the car at the proper times
so I imagine there is quite a bit more paperwork
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with this route as opposed to buying a car,
which may matter for some but for some others
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it may be worth it.
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I've also been told that with very few exceptions
you need to have top-notch credit scores to
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be able to lease a car and leasing companies
almost across the board require you to purchase
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gap insurance.
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And of course the last downsides to leasing
a car is that some leases will have early
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trade-in fees or penalties and you never hold
any equity in the vehicle when you return
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it at the end of the lease contract you will
have nothing to use as a down payment on your
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next vehicle unless you were diligent and
saved up during the time that you had the
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lease.
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And obviously, when you're buying a car the
benefits and downsides are flipped.
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When you buy a car you don't have any monthly
payments after the loan is paid off you don't
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have mileage restrictions or any customization
or excess wear-and-tear fees and your credit
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does not have to be excellent although it
would certainly help when it comes to interest
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rates on a loan.
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However it is generally more expensive in
the short-term month-to-month then leasing
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is, some dealers will try and talk you into
a long-term loan since it makes the monthly
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payment look smaller but it usually carries
a higher interest rates and of course keeps
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you in debt longer which is generally not
a good thing, and you may need a pretty hefty
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down payment depending on your situation.
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So how do you calculate a monthly lease payment?
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This is one thing that I wasn't going to do
initially in this video but decided that I
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should do it because I couldn't find too much
information about this in other videos on
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YouTube.
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First, you'll need a few things.
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You'll need the MSRP of the vehicle also known
as the sticker price of the vehicle.
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Next, you'll need the money factor which is
also sometimes called the lease factor or
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even a lease fee and you'll usually need to
call the dealership that you're looking to
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lease the car from in order to get this.
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They will likely ask you what brand make and
model you're considering leasing so be sure
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to have that information ready when you call.
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Third, you'll need the term or length of the
lease most sites that I researched recommend
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leasing for no more than 36 months but there
are some specials for 39 months.
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But the point is you need to know how long
your lease term is going to be.
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Once you have that you'll want to find the
residual value of the car by asking the dealer
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what the residual percentage is for the specific
car that you're considering while you're on
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the phone with them.
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The residual percentage varies of course between
dealers in cars but it's usually somewhere
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in the neighborhood of 45% to 60% for a 36-month
lease.
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You also need to find out if there are any
fees associated with the lease.
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Common fees include registration fees, acquisition
fees, and sometimes down payment tax but there
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may be others.
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And the last thing you'll need is any rebates
that are available to you if you have any.
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Once you have all that information here's
how you calculate your monthly lease payment.
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For this example let's say that John is going
to lease a car with an MSRP of $25,000.
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To keep the math simple will say the residual
percentage is 50% and the money factor or
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the least Factor will be 0.00125.
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He's Leasing and will not make any down payments
on the car and he does not have any rebates,
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but he does have $1,200 in various fees and
has a lease term of 36 months.
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Once you have all that information here's
how you calculate your monthly lease payment.
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The first step is to take your vehicle's MSRP
and multiply it by whatever the residual value
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is that you are given.
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In John's case, that means he takes $25,000
* 50%.
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This gives him a residual value of $12,500
for his leased car.
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We're going to assume for the sake of this
example that he did not negotiate the actual
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sale price on a car and instead just purchased
it for the sticker price or MSRP.
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Therefore Step 2 is to take the sale price
and add in any of the fees that you have to
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pay in order to get what the car manufacturers
called the gross capitalized cost.
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In this case, since he didn't negotiate, he
paid the MSRP of $25,000 and had $1,200 in
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fees.
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Therefore his gross capitalized costs are
$26,200.
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Step 3 is to take any down payment, trade-in
equity, or rebates that you might have an
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add them together in order to get what they
call your capitalized cost reduction.
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In John's example, he didn't make any down
payments and he didn't have any trade-in Equity
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or rebates so his capitalized cost reduction
is just going to be zero.
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Step four is to take the gross capitalized
cost that you figured out in Step 2 and subtract
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the capitalized cost reduction you just figured
out in step three in order to get your adjusted
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capitalized cost.
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again in John's case, he didn't have anything
in step three so is adjusted capitalized costs
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are the exact same as gross capitalized costs
cost of $26,200.
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Step 5 is to take the adjusted capitalized
cost you figure it out and step 4 and subtract
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the residual value that you figured out and
step one in order to get what they call you
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or depreciation amount.
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In John's case, his adjusted capitalized costs
were $26,200 and his residual value was $12,500.
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So punching those into the calculator you
find that his depreciation amount for the
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car lease will be $13,700.
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This number is very important because it's
what your base monthly lease payment is going
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to be calculated with.
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And that's what we do in Step 6 you take the
depreciation amount you figured out and step
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five and divide it by however many months
you are leasing goes for.
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In John's case, he had a 36-month lease so
he takes $13,700 and divides it by 36 which
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gives him a base monthly payment of about
$380 a month.
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But don't get excited we're not quite done
figuring out your actual monthly payment yet
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there still a few more steps.
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In Step 7 you take the adjusted capitalized
cost that you figured out and step for and
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add the residual value that you figured out
in Step 1 and then you multiply that number
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by the money factor.
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So in John's case, he had an adjusted capitalized
cost of $26,200 and a residual value of $12,500.
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So we add those and that gives us $38,700.
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we then take that $38,700 and multiply it
by the money factor of 0.00125 which gives
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us a little over $48 a month.
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This number is what the leasing companies
called the rent charge.
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Step eight is where you at that rent charge
to the base payment that you calculated in
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Step six to get your pre-tax lease payment.
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In John's case, this means he takes the $380.56
that he calculated In Step 6 and adds the
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$48.38 from Step 7 to get a pre-tax monthly
lease payment of $428.94.
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Now if you're lucky enough to live in a state
that doesn't charge sales tax you're done
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calculating your lease payment.
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However, if you're like most of us that live
in a place that does charge sales tax then
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you need to multiply that pre-tax monthly
lease payment by the local sales tax rate
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where you live to get your total monthly lease
payment.
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Let鈥檚 say John lives in Santa Monica California
just for the sake of this example they have
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a sales tax of about nine and a half percent.
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Meaning that he would have to take that pre-tax
monthly lease payment of $428.94 and multiply
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it by 1.095 to get his monthly total monthly
lease payment of $469.69.
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So that's how you calculate a lease payment.
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Now I know that many of my viewers also watch
Dave Ramsey and so you鈥檝e probably heard
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him say that leasing a vehicle is the most
expensive way to own a car.
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He says that on average the effective interest
rate on car leases are about 14%-15% which
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is about as high as the average interest on
credit cards.
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So this is kind of a big deal.
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But one thing that I haven鈥檛 heard him talk
about before is how the people calculating
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that effective interest rate arrives at 14%
or 15% because you certainly don鈥檛 see anything
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on the lease contract that says you鈥檙e paying
15% interest on this lease.
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You see what the money factor is but that鈥檚
about it.
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Well here鈥檚 how you calculate it.
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When John was paying for that lease on his
$25,000 MSRP car, the base monthly payments
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weren鈥檛 actually being calculated based
off of $25,000 like they would be on a normal
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car loan were they?
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No, they were being calculated based off of
the difference between the cost of buying
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the car (after things like registration fees
were taking into account) and what the residual
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value of the car will be at the end of the
lease term, which is obviously estimated by
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the leasing company prior to you signing the
lease.
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In the example with John, the difference between
those two numbers was $13,700.
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So let鈥檚 say that for example instead of
leasing a car, he decided to buy a car for
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the same $13,700 that his base monthly lease
payments were being calculated with.
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And let鈥檚 also say that the $13,700 car
loan that he signed when he bought the car
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was for 36 months and his monthly payments
were just under $470, just like they ended
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up being for his lease.
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If you punch those numbers into a loan calculator
and ask it to find you the interest rate on
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the loan, you鈥檒l see that it comes out to
be about 14.2%.
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And just for grins and giggles do you want
to know how much you would be paying a month
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if you bought a $25,000 car instead of leasing
it?
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Well assuming we go with the averages, the
average interest rate on a new car loan according
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to Experian is a little under 4.5%, so I鈥檒l
use that for the interest rate and I鈥檒l
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say it's a 60-month car loan.
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The monthly payment?...
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$466.08.
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So not all that much different than the lease,
except for the fact that you may have some
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resale value at the end of the car鈥檚 run
that you can then use for a downpayment on
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the next one.
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So as you can probably tell, I personally
am in favor of buying a car as opposed to
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leasing it, but that doesn鈥檛 mean that my
opinion is objectively and universally the
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correct one.
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For some people, it may be worth taking on
that higher effective interest rate in order
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to always be driving with the latest technology
and not having to go through the hassle of
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selling the car at the end of its run.
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And that鈥檚 perfectly fine, my goal with
this channel is not to tell you what to do
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with your money.
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My goal is just to make sure you are aware
of what options are out there and do my best
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to clear up any mysteries in the realm of
personal finance.
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But that'll do it for me today once again
if you enjoyed this video be sure to subscribe
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and hit that Bell next to my name so that
you'll be notified of all my future uploads.
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I generally upload every single Friday, and
if you have a friend that would be interested
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in this kind of content be sure to share it
with them and let's really get this information
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out there and start our own Financial revolution.
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