What is a Lease & How Does it Work?

Technically, a lease is a legal agreement between two parties that specifies the terms and conditions for the rental of property, which, in this case is a car. In general, the agreement is not between you and the car dealer, rather it is between you and a leasing company chosen by the dealer. In other words, the car is actually sold to the leasing company who, in turn, rents the car to you (see figure). The dealer simply acts as an agent for the leasing company and negotiates the terms under which you will rent the car from the leasing company.

Lease Terms

The lease terms are:

• The Capitalized Cost: The amount the car is sold to the leasing company (less cap reduction payment)

• The Money Factor: Analogous to the interest rate on a loan.

• The Residual Value: The projected value of the vehicle at the end of the lease.

• The number of months: length of the lease.

• Monthly Payment: How much you pay each month.

In practice, the money factor and residual value are difficult to negotiate. However, just as in conventional financing where the sales price of the car is negotiable, the capitalized cost is negotiable and the lower the cap cost, the lower your payment.

• Next Topic: Types of Leases

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