What to Know Before Leasing a Company Car for Business
Many business owners are leasing cars for business use. The attractive monthly costs and the ability to change cars frequently to keep up with new technology and safety features are appealing. But is a leased car right for your business? Here are some factors to consider in a decision to lease or buy a company car, how to lease that car (including options), and tax implications of leasing a company car.
Leasing vs. Buying
There is no magic formula for making a decision to lease vs. buy a company car. Every business situation is different. Here is a brief list of considerations:
- Length of ownership. One of the most important factors in leasing a company car is how long you think you will have the car. Most business owners and employees put a lot of miles on a car, and you probably will want to turn it in sooner rather than later, so that means a lease might be a better deal.
- Mileage is an important cost and must be factored in. Company cars are typically driven more miles than personal cars, which increases costs. The
- Consider the total cost of the car over the time you have it. Run calculations for both buying and leasing, including the cost of the lease or loan, expected miles driven, maintenance and upkeep. Also, consider cash flow in the total cost - when you must make payments and cost at the end of the lease. Finally, consider the value of the car at the end of the lease vs. the ownership period. And don't forget taxes (discussed in more detail below).
If you want to try calculating the lease cost on a vehicle, you can use this car lease calculator from Bankrate.com.
You will need to know:
- The Manufacturer's Suggested Retail Price (MSRP)
- The final negotiated price of the vehicle
- The down payment, if any
- The usage (sales)tax rate in your area
- The length of the lease
- The new car lending rate (also available on Bankrate.com)
- The car value at the end of the term (the residual value).
When you sit down to negotiate a lease for a company car with a car dealership, you will probably be offered two options: an open lease and a closed lease.
Open Lease vs. Closed
An open lease contract is used primarily for commercial (business) vehicle leases. In this type of lease, the lessee pays the difference between the residual value (estimated resale value) and the actual resale value at the end of the lease. If the vehicle is driven more than estimated, the actual resale can be low, resulting in increased costs for the lessee. In contrast, at the end of a closed lease, the lessee pays only extra mileage and extraordinary damages.
It is a term used in car leases. It describes the value of the car at the end of the lease. The term "residual value" is also used to describe the amount a business expects to sell an asset for at the end of its useful life.
The residual value is a function of the amount and rate of depreciation on the car or other business assets. The more the asset depreciates, the less its residual value will be at the end of the lease.
The residual value has a relationship to the payments. If the residual value at the end of the lease is high, the monthly payments will be smaller, and vice versa. But the residual value is the amount you must pay at the end of a car lease if you want to purchase the car, so it may not be to your advantage to have a high residual value.
Consider Lease Term Length
Shorter term leases are more costly than long-term leases because the residual value goes down faster in the first 24 months. It makes sense since any vehicle depreciates faster at the beginning than later in its life. Lease terms are usually for 24, 36, or 48 months. Look at the "bumper-to-bumper" warranty on the vehicle and don't extend the lease past this date.
Estimated Annual Mileage
Before you go into a lease, you will need an estimated annual mileage for your use of the car. A typical lease might have a 12,000-mile annual limit, but if you think you will be running at more than 12,000 miles a year, it's worth it to pay extra for the additional mileage. Otherwise, you will have to pay for the additional mileage used at the end of the lease.
Lease Fees and Additional Payments
Dealers like to add on fees, like an acquisition fee (which is comparable to points on a mortgage). Try to negotiate these fees out or down; they are just extra dealer charges, often hidden. The dealer may also require an advance payment (sounds like a deposit or down payment, doesn't it?).
As always is the case in business financial matters, taxes must be considered, and maximizing deductions is most important. Income taxes. Leased vehicles are not depreciated, but business driving costs for a leased car may be deducted, under certain circumstances and with limits.
- First, the car must be driven 50% or more for business purposes (and you must be able to prove the amount of business driving each year). Only the business driving portion of the costs can be deducted.
- Then, you must use the actual cost method (not the standard deduction) to calculate driving deductions, to deduct the cost of the lease payment.
- Finally, a higher value leased vehicle may be subject to what the IRS calls an "inclusion amount," which is a reduction in the deduction for the lease cost. You can read more about this inclusion amount in IRS Publication 463, under "Leasing a Car."
Sales taxes. You can't get out of paying state sales taxes on a lease, so keeping the price low will help you pay less on sales tax.