Car Leasing or Car Loan: Which Is a Better Deal?
Car Leasing or Car Loan: Which Is a Better Deal?
With car prices skyrocketing, people are thinking twice about how they want to go about getting a new vehicle. Car loans, open-end and closed-end leases, and operating leases: in this article, we’ll review the various financing options, along with their pros and cons.
The State of the Automotive Industry
Even before the war, the automotive industry was in poor shape due to shortages of semiconductors and chips, as well as supply chain issues. The Russia-Ukraine war has only made matters worse, further slowing the market’s recovery. The end result speaks for itself: long wait times, skyrocketing prices, and a booming used-car market.
From a financial perspective, the current environment is also unfavorable; APRs have crept up for both auto loans and leasing arrangements (but more on interest rates later).
What opportunities are available in the market?
We recently published an article on financing options for company cars, so here we’ll only briefly summarize the information regarding company cars. In this blog post, we’ll instead review the financing options from the perspective of private individuals.
Buying a Car Without Relying on Other Sources of Funding
There’s no question that when it comes to buying a car, those in the best position are the ones who have enough liquid capital to purchase a new vehicle. They avoid having to pay the interest on loan or lease arrangements. Since the majority of car purchases in Hungary involve trading in an old vehicle, it’s easier to cover the purchase price of a new car with the amount received for the previous one. We’ve already written an article about the process of trading in a used car.
Those who cannot or do not want to pay for the new car in a single lump sum can purchase it on credit or lease it. But what exactly do these options entail?
Car Loan
A “car loan” is not a financial term, but rather a marketing phrase. Essentially, it refers to a personal loan that can be used for any purpose. The term was coined because banks know that many people use loans of a few million forints to buy cars, and this makes it easier for them to attract potential customers.
When you buy a car with a car loan, the car becomes your property immediately; you just have to pay the monthly installments. You have no other obligations, so you don’t even need to take out comprehensive insurance.
The advantage of car loans is that they can be obtained quickly and without a down payment. So if you happen to find a used car you like, you can secure the necessary funds within a few days. The downside is that loans are currently expensive, so you can expect interest rates well into the double digits.
Leasing
There are three main types of leases:
- Operating lease / long-term rental: The leased car is owned by the leasing company, and the lessee rents it from the company. This option is available to businesses because it is convenient and requires no down payment.
- Open-end lease: In an open-end lease, after paying a down payment, the customer uses the car—which remains the property of the leasing company—in exchange for monthly lease payments. At the end of the lease term, the customer can decide whether to purchase the car at its residual value or allow it to remain the property of the leasing company. Only businesses can take advantage of an open-end lease.
- Closed-end lease: This option is available to individuals. Essentially, after paying a down payment, the customer receives a car for use, and upon expiration of the lease term, the car becomes their property. (More precisely, they purchase it at its residual value, which is often 0 Ft.) Here, too, the car remains the property of the leasing company until the end of the lease term.
The Pros and Cons of Closed-End Car Leasing
But let’s take a look at the pros and cons! Let’s start with the fact that, for a long time, leasing was clearly cheaper than a car loan. However, due to market conditions, the APR on leases has skyrocketed, approaching—and in some cases even reaching—the APR on loans. In addition, comprehensive insurance is mandatory for leases; either the customer pays for it, or it’s built into the lease cost. On top of that, a down payment is required, and the approval process takes longer. So is it worth it?
That’s a valid question. Leasing can be worthwhile for individuals if they receive a particularly favorable offer with a low APR. Of course, such offers aren’t available for every car, but if a bank happens to offer a financing plan for the vehicle we have in mind, it might be worth considering. Otherwise, however, as a private individual, you’re likely to be better off with a car loan.
High Interest Rates vs. Inflation
In closing, it’s worth saying a few words about the relationship between interest rates and inflation. As we’ve explained, interest rates on both car loans and leases have skyrocketed due to high base rates and the overall market environment. Seeing an APR in the high teens probably doesn’t bring tears of joy to our eyes, but the equation is a bit more complicated than that.
No one needs an introduction to inflation, and unfortunately, it looks like it’s here to stay for a while. This means that with 15% inflation, if we take out a loan at a similarly high interest rate, inflation and interest will partially “cancel each other out” when it comes to the amount invested. So we end up paying more than the money we borrowed, but the portion of our paycheck that goes toward the loan payment (e.g., 60,000 HUF) will also be worth less at the end of the term than it is now. Since we’re buying the car at today’s price, we’re effectively “protecting” that amount in advance against the decline in the value of money. A car purchased now for 5 million may be worth 9 million in three years; the 60,000 installment may be worth only two-thirds of its current value, but it will still be that amount (in the case of a fixed installment). These effects therefore somewhat offset the obvious disadvantages of high interest rates.
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