Should Students Buy or Lease a Car

Introduction

Students are highly facilitated in their mobility when they have a car at their disposal. Students have two options to acquire a car, i.e., buying or leasing. Renting a car provides only time-bound mobility. Normally, financial resources at disposal of students are limited. Available financial resources play a major role in making a decision about purchasing or leasing a car. Banks and other financial institutions generally do not introduce financing schemes meant for students because of students’ irregular sources of income. An in-depth study is required to bring forth important facts about financing so that students are provided with the necessary information to make a choice between purchasing or leasing a car.

Targeted Group

The targeted audiences for this study are students in the age group of 20 to 25 years desiring to acquire a car (new or used) either through outright purchase or getting it leased suitable to their repayment capacity. Students have to consider their financial resources in order to decide about buying or leasing a car. The financial freedom of students is the key factor that influences their decision about buying or leasing a car. Easy availability of finances provides flexibility in decision-making. The attitude of students is another factor that plays an important role in making a decision about buying or leasing a car.

Selection of Car

A student has to consider the following matters while selecting a car for him/ herself:

• Students must consider the operating cost of the car and not just the price of the car.
• The student has to follow the budget available while evaluating the price of the car. The price of the car is arrived at including taxes, fees, and cost of additional accessories into the selling cost quoted by the dealer.
• Every other day new models of cars with innovative features are introduced in the market. These features come at an additional cost. Students should be careful not to be impressed by dealers to buy features that are not useful to them. Students should take a decision as per their likings and requirements as these additional features will enhance the cost of the car.
• Options like air conditioning and an auto- locking system should not be overlooked when buying a car. These are great features to have and increase the value of the used car at the time of sale.
• Students driving a lot should look for a car with good fuel economy. A small difference in fuel efficiency makes a big difference in the running cost of the car.
• Take care to buy a car with folding rear seats as it helps in carrying bulky things particularly whenever a student has to shift hostels (or other living places).
• Students should opt for power windows, seats, locks, and mirrors, as these accessories prove costlier when affixed outside the dealership.
• Size of the car is also an important consideration keeping in view indoor or other parking space allotted to him/ her at hostel or living premises.

Leasing a car

In recent years, auto leasing has gained popularity. The process of leasing a car is different from the process of buying a car. Leasing is also different from renting a car. The concept of renting involves using or hiring the car for a price calculated on basis of distance covered. The ownership of the car always remains with the company providing the car on a rental basis. The car remains with the user only for a specific period for which the user has agreed to pay the rent. There is never an issue of transfer of ownership of a car to the user while renting a car.

The term ‘Leasing’ denotes entering into an arrangement to make payment for the use of the car for a specified period with or without an option of transfer of ownership of the car to the lessee on expiry of the lease period. The cost of the lease depends on factors like the sale price of the car, interest rate, duration of the lease, and whether the lease is closed or open-ended.

Under an open-end lease, there is no restriction on driving mileage, but if the residual value is less than the agreed amount, the lessee (the student) has to bear the difference. Residual means the part that is left after some of it has been taken away. Therefore, ‘Residual value is the amount you can buy the car for at the end of the lease if you decide you want to purchase the car (Philip Reed).In a close-end lease, there is a driving mileage restriction and on exceeding the limit, the lessee (the student) has to pay for excess mileage as per terms of the lease.

There is a different accounting perspective to understand the determination of the cost of a lease. The accounting approach is that lessee has to make payment for the value of the car that depreciates during the lease period. This depreciation value is calculated by reducing the estimated residual value of the car at the expiry of the lease period from the original cost of the car. Of course, the lessee has to pay finance charges as well over and above the cost of a car that depreciates during the lease period.

A type of car lease is known as ‘Novated Lease’. ‘A novated lease is an agreement between your employer, yourself (the employee), and the financer, where the obligation to meet repayments under the finance lease is with the employer (Private Fleet). Novated lease is thus a salary package arrangement. This type of lease is relevant from the point of view of students who are in part-time employment, and the employer is ready to bear lease payments. Under this system, a ‘Deed of Novation’ is entered into whereby the financial obligations under the finance lease are transferred from the employee to the employer. A Novation lease is a salary package arrangement. The employer makes lease payments to the financer. The deed of novation remains in force till the earliest of lasting of employment or the end of the finance lease term. In case the employee leaves the employment before the end of the finance lease, the financial obligations are transferred back to the employee.

Two methods or ways are available in the market for leasing a car. Usually, corporate groups having car-manufacturing businesses also have finance companies that offer finance under-car leasing schemes. Some car dealers use alternative sources such as a distributor-associated financial company. This is one alternative for lease opportunity. Secondly, there are independent institutions like banks offering lease options.

Lease payments are made up of two parts; a depreciation charge and a finance charge. The depreciation part of monthly payments compensates the leasing company for the portion of car value that is lost during driving in the lease period. The finance part is the interest on funds the leasing company has tied up in the car for the leasing period.

Leasing is only a financial package and does not guarantee the normal running of the car. Normally the manufacturers of the car provide for the warranty of the car. Therefore, servicing, repairs, and maintenance of the car is the responsibility of manufacturers or dealership networks selling the car for a specified period.

The system of leasing a car has the following advantages:

• Lease installments depend on factors like sale price, interest rate, lease period, and a residual value of the car at lease-end. Financers design different lease options by varying these factors and the lessee gets a variety of lease options to select the plan suitable to the lessee’s financial planning.
• Finance companies float various lease schemes with very low or even without any down payments. Thus, lease schemes provide flexible opportunities to the lessee.
• Collections of taxes have been spread out under Canadian tax laws. Taxes are payable as per utilization of lease. That is to say, taxes are levied on basis of lease installments due or paid by the lessee.
• Under the close-end lease, the lessee has simply to return the car to lesser and accordingly there are no problems of disposal of used car.

There is another side of the picture as well. Some disadvantages of leasing a car are detailed hereunder:

• A longer lease period adds to the cost of the car.
• Early exit charges are high and thus pinching when the lessee decides to opt-out of the lease agreement before lease-end. Some times lessee decides against early existence only because of high existing charges.
• Some closed-end lease agreements spell out miles a lessee can drive per year or over the lease period. Exceeding the driving mileage as spelled out in the agreement proves costlier to the lessee as under such circumstances lessee has to pay an extra fee or charges.
• Leasing is not for everyone. The lessee makes payments but does not have anything to show at the end of the lease. The lessee is not the owner of the car. The decision to own the car at lease-end depends upon the options provided in this regard in the lease agreement.
• A high credit rating is required to get preferences in interest rates as normally advertised by the leasing company.
• Lessee has to purchase special ‘gap’ insurance to provide cover for remaining lease payments on the leased car.

Buying a Car

Buying a car is a major decision for most buyers including students. The student has to factor in a number of important issues like buying a new or used car, registration of the car and related charges, insurance, running cost, maintenance and servicing, dealer delivery charges, and others.

Buying and leasing cars are different types of transactions. Buying a car involves payment of the entire cost of the car. Typically, a down payment is made and the rest of the cost is arranged through a loan unless the buyer is in a position to make a cash payment of the entire cost of the car. The loan is granted on the basis of the credit history of the buyer. Under leasing, only a portion of the cost is paid. The cost of a car under leasing is that portion of car cost that is ‘used up’ while driving during the lease period. Sometimes the lessee is not required to make a down payment.

The first thing to figure out in car buying is how much the buyer (student) can afford to invest in a car. Experts suggest that only an affordable portion of net income should be spent on the purchase of a car.

The next issue is a decision about the kind of car suitable for the buyer. Consideration of the following important issues may help students in arriving at a decision:

New or used car selection and its valuation

A brand new car may be a passion for a few, but taking a used car is also advantageous for those deciding in its favor. The market value of the new car is hugely reduced once the car is driven out of the dealer’s lot. When purchasing a car is financed such instant depreciation in the value of a new car means a loan on a car is more than the value of the car. The consideration of these factors forces a decision in favor of used cars. Buyers will find that one or two years older cars are less expensive considering the fact they perform equally well as brand new cars.

The most important step in buying the used car is ‘Pre-purchase-inspection’ in order to determine how well the car was maintained and whether it is worth the asking price. ‘The PPI is designed to uncover existing conditions or to reveal maintenance shortcomings that may become potential safety or expensive repairs in the future (Michael Harvey). Such services are readily available at a cost and the dealerships readily agree to deduct such expenses from the negotiated price. In addition, the dealership suggests purchasing an ‘extended warrantee’ for the car. An extended warranty is an insurance policy to cover mechanical & other repairs for the specified insured time.

Pricing a used car is a tricky matter for the buyer. ‘Unfortunately used car pricing is not an exact science. So the prices you get from different sources often don’t agree with each other- frequented by a wide margin’ (Used Car Advisor). Used cars can be valued using the following criteria:

• One way to find out the price of a used car is to set a fair value (lower than the buyer’s highest offer) and offer this to the dealer. Experienced dealers have the ability to judge the seriousness of the offer made. If the dealer feels that buyer is serious, he/ she may consider the offer approached as a fair value and start further negotiations with the buyer; otherwise, the buyer has to approach other dealers.
• Another method of evaluation is where the buyer starts with a bare minimum offer according to him over the dealership cost and observes the reaction of the dealer. The dealer may come with a counteroffer and this process of offer and counteroffer continues until the fair value is reached as per judgments of the dealer and the buyer.
• While evaluating the cost of a used car, the buyer has to determine the need for repairs required to the used car and deduct the estimated cost of repairing charges from the dealership price. This is a little practical approach when the buyer is otherwise impressed with the maintenance of the car by the previous owner or user of the car.
• Observance of different types of used car prices helps the buyer to negotiate a good bargain with a dealer.

The following factors greatly affect the resale value of used cars four to five years down the road

1. Mileage drove in comparison to manufacturer’s declared life of the specific model of the car.
2. Condition and type of accessories affixed or attached to the car and their valuation on basis of the expected life of accessories.
3. Evaluation of history of the car obtained on basis of Vehicle Identification Number (VIN).

Vehicle identification history

Once the student has selected a car to be purchased, the next step is to get its Vehicle Identification Number (VIN) for verifying the history of the car. This history verification is important to avoid problems that may crop up at any time without any fault of the new buyer. This verification can be done online on a number of sites. History report describes how the car was utilized in the past.

Financing of the car

Paying in cash for a car purchase is suitable under the following circumstances

1. When financing of the car proves costlier.
2. When the buyer does not have a good credit rating.

Car financing offers an alternative to paying in cash for the car. The buyer becomes the owner of the car right from the first day even though the car is purchased with borrowings. The buyer can make any alteration to the car, as the buyer owns the vehicle. The major benefit is that after repayment of the loan, the buyer owns the car free and clear. Car financing can be through the dealership, an independent finance company, a bank, a credit union, an online financial institute, or through a private source of the buyer like a family member.

Normally, repayments of car loans are made on monthly basis. Repayments have two parts, one repayment of principal amount and the other a finance charge, or interest on the loan. As all cars depreciate by the same amount regardless of whether they are leased or purchased, part of principal repayments can be considered as a depreciation charge. It is like money that is never returned even when the car is sold.

Insurance

Car insurance is the legal responsibility of car owners, as non-insurance of the car will invite legal penalties. That is the reason car users keep their vehicles insured all the time. While ensuring a car the car user has to decide about insurances on important and valuable attachments like stereo and others. It is essential to find coverage that meets the requirements of the car owner. It is important that insurance coverage be negotiated with an insurance provider with a proven record of superior services.

Insurance cost is a major regular expense. ‘Intelligent consumers find ways to reduce insurance costs. Follow as many tips as you can like keeping the car in good condition, and having a blemish free driving record.’ (Barry Allen) In his article, Barry Allen suggest the following tips to lower considerably the car insurance premium payable:

1. Avoid signing the first car insurance offer as the insurance prices vary not only from company to company but also between online insurance directories and offices.
2. Choose an insurance company with a proven record of accomplishment.
3. Ponder on insurance cost even before the decision to buy a car.
4. Pay higher deductibles as they reduce the cost of insurance premiums.
5. A comprehensive car insurance policy is preferable as compared to other policies.
6. Car insurance need not cover accidents when health plan insurance covers those.

Conclusion

Students may use either of the avenues for acquiring a car. Leasing has a limitation of not providing ownership in the lease period, but the lessee may face problems of disposing of the car at the expiry of the lease- period. Novated lease is a good idea for students in employment. Novated lease can be made part of the salary package if the employer so desires. When leasing coincides with the warrantee period repair expenses are taken care of by the manufacturer of the car as per warranty clauses.

On the other hand, buying provides ownership confidence. The student may add attachments to the car at will. The students can also get the car financed if the terms and conditions of financing are suitable. Financing is a good option for students facing financing problems.

When buying a used car the assessment of price requires a concentrated effort on part of the student. Pre-purchase insurance (PPI) is an essential requirement to ensure the roadworthiness of used cars. Another important exercise to indulge in is obtaining a vehicle identification history.

The decision of the student has to be well researched mainly because financial commitments under both systems are strict to observe. Students may take a decision as per their individual circumstances.

Recommendations

Purchasing the car instead of leasing it is highly recommended to the students basically because following two reasons:

1. Leasing is in fact financing of the car with an option, if available, to purchase it at end of the lease period. Purchasing can also be financed with the additional benefit of the buyer becoming the owner of the car right from the first day of its acquisition. When under either of the situations the buyer or the lessee has to bear the finance charges, then why not become a proud owner by purchasing through financing.
2. Further, as the owner of the car students are always at liberty to get affixed accessories of their own likings.

The above report specifies very clearly the features of both options of acquiring a car. Choosing one of the options may not be difficult for students in view of the availability of necessary information in the report. Whatever may be the decision of students, it is recommended that only an affordable portion of total yearly income should be invested by way of advances or deposits in either of the preferred schemes. Also, students who are in part-time employment should opt for novated lease in consultation with their employers, if they have decided not to purchase the car.

References

Barry Allen, ‘10 Tips that will save on car insurance’, 2007.

Michael Harvey, ‘The Role of a Pre- Purchase Inspection’, About.com: used cars.

Philip Reed, The Residual Value of Leasing, Leasing Tips.

Private Fleet- Car buying made easy, ‘Novated Lease- overview’. Web.