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Ask Dr. Don
By
Don
Taylor,
Ph.D.,
CFA
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Bankrate.com |
Leasing lesson
Dear Dr. Don,
Why is the finance charge on a lease figured on
capitalized cost plus residual value instead of just cap cost? The
cap cost of the car is what I would finance if I were to purchase
the car.
Rickey Rental
Dear Rickey,
Leasing companies just like to keep things confusing, or at least
it seems that way to me. You're right in equating the capitalized
cost to the loan amount on a car purchase. The residual value is
the "loan balance" at the end of the lease. Over the lease
term your monthly lease payments include a principal component that
chips away at the capitalized cost until at the end of the lease
only the residual value remains.
If you add the capitalized cost and residual value
together and divide by two you'll get the average capitalized cost
outstanding over the lease term. If the capitalized cost is $20,000
and the residual value is $10,000 then, over the lease term, your
average balance is $15,000 -- half of the sum of the capitalized
cost plus the residual value. That's true whether it's a two-year
lease or a four-year lease.
Multiply the $30,000 by the applicable lease factor
and you've calculated the monthly financing fee as shown in the
example below:
| Capitalized Cost |
$ 20,000 |
| Residual Value |
$ 10,000 |
| Cap Cost + Residual Value |
$ 30,000 |
| Lease Factor (5 percent/24) |
0.208333% |
| Monthly Financing Fee |
$ 62.50 |
Using the sum ($30,000) works because the lease factor
is the annual interest rate divided by 24 instead of 12. The financing
cost is based on twice the average balance but the interest factor
is half the monthly interest rate.
The financing fee is added to the depreciation fee
and the usage tax to arrive at the monthly lease payment. Bankrate's
lease calculator
can put it all together for you. Happy motoring.
-- Posted: April 19, 2004
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