The Great Car Debate: New, Used or Leased?

photo: smartvital

It’s the dilemma that every car buyer has grappled with at least once: should I go with a new, used or leased vehicle?  

Unforgiving frugalists will tell you that “new vehicles lose 10% of their value the second they are driven off the lot” and consider the case closed. Quality-of-life seekers will argue that the value they receive from owning the car that they’ve always wanted brand new — whether purchased or leased — is priceless.

Wherever you stand on the issue, it’s important to at least crunch the numbers, understand your purchasing style and take a holistic approach to deciding on your next car. Here’s how.

Total Cost of Vehicle Ownership: New Vs. Used. Vs. Leased
Philip Reed, Senior Consumer Advice Editor of automotive website Edmunds.com ran a test looking at the five year total ownership costs of buying a new $20,000 vehicle and driving it 12,000 miles annually versus leasing the same vehicle or buying a used version for $10,000. Reed didn’t clarify how old the $10,000 vehicle would be, but based on common resale value percentages and dealer markup, we estimate that it would be about five years old (which is important later on in our analysis). What he found was intriguing from a financial-geek point of view. The total costs for each scenario ended up being:

• New buy: $32,388
• New lease: $32,140
• Used buy: $18,390

Buy vs. Lease
Clearly, in this example, buying the new car seems to be the least cost-effective, right? Not so fast. With the buy options, you would own the vehicle outright, and your vehicle would have an open market value if you decided to sell it. With the leased option, you own nothing. Clearly, from purely a financial perspective buying a car — whether it’s new or used — definitely makes more sense than leasing. (And that’s even if you stay under your mileage penalty limit on a lease contracts.)

photo: Hugo90

Buying New vs. Used
What’s not as clear, despite the wide price difference and conventional wisdom, is whether buying a new vs. used car makes more financial sense. When you factor in market value in the Edmunds example, the new car’s value after five years was $7,000, while the used car’s value was just $2,000. That would bring your total monetary committment, if you were able to sell both vehicles, down to $25,388 for the new car and $16,390 for the used. Still a big difference, though: $8,998 in favor of the used car.

The Life-of-Vehicle Argument: Where Conventional Car Buying Advice Takes a Turn
Here’s where the Edmunds example leaves you hanging a bit. If you had bought a used car at nearly half the price of the new, drove it five years, and it is now worth just $2,000, the odds are good that it probably doesn’t have much life left in it. It would have been roughly 5 years old based on a 50% resale value (and dealer/seller markup) when you purchased it. On the flip side, the new car might give you a run of another four, five or even seven years, particularly if you are a conservative driver who follows all of the proper maintenance suggestions. Suddenly, the picture is not so clear.

In the first five years of ownership, a used car cost $1,799 less to own than a new one. But here’s where it gets interesting. Let’s assume you get five more years out of the vehicle that you purchased new. If you had bought used and went out and purchased another $10,000 vehicle, you’d be paying $285/mo. for the second used vehicle. Meanwhile, your monthly payments for the new vehicle would be $0. Suddenly, you’re saving $3,420/year with the new car purchase vs. the additional used-car purchase in the second five years.

And Lets Not Forget…
Some people think of their cars as much more than four wheels that get them from point A to point B. There is an emotional connection and joy factor that is hard to put a price tag on. Some also like the peace of mind of knowing exactly what their car has been through — vs wondering how it has been treated by previous owners.

The Bottom Line
Unless you are in a very short-term, high-need situation that turns the numbers in your favor, leasing rarely makes financial sense. (Though if you’re truly the type of person who likes to show off with a shiny new car every two or three years, then leasing might be your best bet. After all, if you try to sell a new or used car just two or three years into a longer-term auto loan, chances are you will be “upside down,” or owe more than the car is worth.)

Choosing between buying new or used is much more complicated. If you plan on driving the car into the ground (that is, keeping it for 10 years or so), it might make a lot of sense to buy new versus used. If you want to swap vehicles more frequently, buying used makes more financial sense. The qualitative and emotional aspects of vehicle ownership may yield a different outcome altogether.

GE Miller writes about personal finance for young professionals at 20somethingfinance.com.