Car Shoppers: Should You Buy or Lease?

Should you buy or lease your next car?

The decision is even more difficult these days as auto makers do everything they can to clear their lots. Car shoppers have to weigh offers of 0% financing and/or generous cash back against leases with low monthly payments and layoff protection plans.

The predicament is a far cry from what it was 12 months ago when lower residual vehicle values (the amount a car is expected to be worth at the end of the lease) and the credit crunch pushed lease payments so high that many consumers started to abandon leasing, says Jie Du, an automotive analyst with J.D. Power and Associates. Leases comprised just 13.8% of all new-vehicle retail transactions for the 12 months ending in May 2009, down from 20.9% for the 12 months ending in May 2008, according to the company.

In fact, last summer, Chrysler and General Motors pulled out of the leasing business altogether, leaving many of the consumers who were seeking to lease a domestic vehicle few options. Independent leasing agents have stepped in, but the payments are generally higher than the terms once offered by the auto makers' financing arms, says Tarry Shebesta, owner of LeaseCompare.com, a web site that offers quotes for auto financing and leases.

But now the tables may have started to turn. Many manufacturers are seeking to reduce their swelling inventories — and heavily-subsidized, low-payment leases are an easy way to do so, says Jack Nerad, executive market analyst for Kelley Blue Book. Honda, for example, is running a nationwide promotion on its 2009 Honda Civic VP through July 6, offering a 36-month lease for $149 a month to those with excellent credit and $2,699 for a down payment.

Deals abound on the purchase front as well. If you already own a GM vehicle, for example, you can receive as much as $5,500 cash back when you trade it in for a new car, including $4,000 on its Silverado 1500 Crew Cab and $5,500 on the Cadillac XLR-V. Ford is offering similar deals, according to Kelley Blue Book, including $2,500 cash back on the 2009 Ford Escape XLS and $3,000 on the 2009 Ford Expedition in certain regions. It's not just struggling American auto makers that are offering such deals either. Mitsubishi offers up to $2,000 cash back on the 2009 Mitsubishi Eclipse, while Honda offers low-rate financing (2.9% to 3.9%) on most of its 2009 models.

Of course, whether you should lease or buy hinges on much more than generous incentives and payment plans. Several factors, including your credit score, the length of time you plan on owning the car and your annual mileage, also need to be weighed. (To help you crunch the numbers, use SmartMoney.com's To Buy or to Lease calculator.)

Here’s our guide to help you determine which move is best for you:

You don't owe more on the trade-in than it's worth
If you haven’t paid off your old car yet, check your loan balance and your car’s value. If you’re upside-down, or owe more than your car is worth, you may not be able to secure financing for a new car, says Marvin Hedrick, director of finance at Chrystal Motor Cars in Spring Hill, Fla. It used to be that banks could finance the new car purchase and any outstanding balance of the old loan, but these days they are lending only enough to cover the purchase price of the car, minus any manufacturer rebates, he says.

You’re a long-distance driver
Most leases have a mileage limit of anywhere between 10,000 and 15,000 miles per year. Drive more than that, and you’ll pay overage penalties, typically 15 cents for each additional mile. So if you're logging 15,000-plus each year buying makes much more financial sense.

You drive your cars until they fall apart
Buy a car if you think you’ll drive it at least six years — or until after it’s paid off. “When you buy a car, you have a car,” Nerad says. “When you’re done with a lease, you’re standing at the bus stop.”

You have excellent credit
Banks have tighter credit requirements for leases than they do for car loans, says Hedrick. Most banks have five credit tiers to determine financing offers: Only consumers who fall in the top three qualify for a lease. Those with poor credit are out of luck.

You like that new-car smell every couple of years
The low monthly payments you'll pay on a 72-month auto loan may seem attractive, but they're only worth it if you hang onto the car for several years. Sell the car two to three years into the loan and it's possible you'll owe your lender the difference between the car's value and the outstanding loan balance. If you like driving a new car every two or three years, then leasing makes more sense, especially since payments on 36-month leases are roughly equal to those on 72-month loans, Hedrick says.

You worry that used-car values will drop substantially
If you’re worried that used-car values may drop over the next few years because of the low prices and generous deals offered on new cars today, lease a car and let the bank worry about any loss in value.