How are lease payments calculated
Leasing a car, office space or piece of equipment can be an attractive option for many individuals and business owners, as it allows them to use the asset without having to commit to ownership or large upfront costs. However, one question that often arises when considering leasing is how lease payments are calculated. This article will explain the factors that go into calculating lease payments and provide an overview of the process.
Factors That Affect Lease Payments
1. Capitalized Cost: This refers to the negotiated cost of the asset being leased, also known as the purchase price. A lower capitalized cost will result in lower monthly lease payments.
2. Lease Term: The length of time you agree to lease the asset plays a significant role in determining your monthly payment; shorter leases generally have higher monthly payments due to the need to recover a larger portion of the asset’s cost in a shorter period.
3. Residual Value: This is the estimated value of the asset at the end of the lease term and represents what it may be worth if you choose to buy it after your lease ends. Higher residual values usually mean lower monthly lease payments since less money needs to be recouped over the course of the lease term.
4. Lease Rate: Also known as the money factor or interest rate, this is essentially a fee charged by the leasing company for financing your use of their asset. A higher lease rate will result in increased monthly payments.
5. Taxes and Fees: Local taxes and fees associated with registration or leasing may impact your monthly payment amount, as these expenses are often rolled into your lease.
Calculating Lease Payments
Once you understand these factors, calculating your monthly lease payment becomes relatively simple using this formula:
Lease Payment = [(Capitalized Cost – Residual Value) / Lease Term] + [(Capitalized Cost + Residual Value) x Lease Rate]
First, you determine the depreciation costs by subtracting the residual value from the capitalized cost, then divide this by the lease term. This number represents how much you are paying each month to use the asset during your lease agreement.
Next, add the capitalized cost and residual value. Multiply this figure by the lease rate. This calculation represents the finance charge applied to your lease payment.
Finally, combine these two numbers to arrive at your total monthly lease payment.
Let’s say you’re leasing a car for three years (36 months) with a capitalized cost of $30,000 and a residual value of $18,000 at the end of the term. Let’s assume you negotiated a lease rate of 0.0025.
1. Depreciation Costs: ($30,000 – $18,000) / 36 = $333.33 per month
2. Finance Charges: ($30,000 + $18,000) x 0.0025 = $120 per month
3. Total Monthly Lease Payment: $333.33 + $120 = $453.33
Understanding how your lease payments are calculated can help you better predict expenses and make informed decisions when negotiating your asset lease agreement. By familiarizing yourself with key factors like capitalized costs, residual values, and lease rates, you can better anticipate your monthly payments and compare offers from different leasing companies or assets more effectively.