Understanding Residual Value
If you are seeking a lease, you will inevitably stumble upon the phrase “residual value” during your research. However, it can be difficult to understand what residual value means and why this number matters. This is the value of your vehicle that remains at the end of the leasing period. That is, the residual value describes what the market price of the vehicle should be after a set period of time. Cars tend to depreciate quickly compared to other assets. This is particularly true with higher-end vehicles. This means the residual value of a car at the end of a lease period can be quite low.
Many dealerships use the calculated residual value of a vehicle at the end of the lease to determine how much to charge during the lease. This ultimately becomes the price of your monthly payment throughout your lease. Therefore, understanding what role residual values play in calculating costs can help you get a better deal on your lease. The sections below describe what residual value is, how to calculate it yourself and how to use this information to improve your lease offerings.
What is residual value?
The residual value of a car is how much worth that vehicle retains after a set period of time. In the world of leasing, it refers specifically to the value of the car at the end of the lease period. New cars depreciate quickly, losing value at a rate of 15 to 25 percent per year. Additionally, luxury cars and other high-end vehicles tend to depreciate even faster than low-end vehicles. This means more expensive cars are likely to have a comparatively lower residual value compared to cheaper cars. At the end of a lease period, your vehicle could depreciate in value by 50 percent or more.
A vehicle with a high initial value and a low residual value will depreciate particularly quickly during the lease period. The difference between the two values is the depreciation rate, which determines how much lease payments will be. If a vehicle depreciates quickly, monthly lease payments will be greater than for vehicles that depreciate slowly.
This is because a dealership is recouping the loss of the vehicle’s value through the monthly payment. Therefore, drivers considering a lease should try to find a vehicle that depreciates slowly. If a vehicle retains much of its residual value at the end of the lease, drivers can expect to pay less monthly for that vehicle.
How to Calculate Residual Value
You can calculate the anticipated residual value of a car before you begin speaking with dealerships. This can help you in two ways. First, you can determine a fair price for a particular car before going in, ensuring that a dealer does not scam you. Second, you can determine what vehicles will be the best deal before speaking to a dealer in the first place. This reduces the amount of time you must spend negotiating prices and cars with dealers.
To calculate the residual value of a lease, find the Manufacturer’s Suggested Retail Price (MSRP) for the vehicle. Even if you negotiate a better price with a dealer than a vehicle’s MSRP, the residual value is still calculated by the MSRP.
After you have the MSRP for a particular vehicle, you must learn what residual value formula the leasing company uses. Companies rely on the Automotive Lease Guide to anticipate what a particular vehicle’s wholesale price will be after several years. You can contact the company directly to learn what residual value formula they use, or you can pay for access to the guide online.
Once you have the residual value percentage rate that the company uses, you can calculate a rough estimate. Multiply the MSRP by the residual percentage rate. The number you get is the anticipated residual value of the car. Take the residual value, and divide it by the number of months you anticipate having the vehicle. This is your estimated monthly payment for the vehicle.
Something to keep in mind is that different dealerships and manufacturers may use slightly different rates. This means that what monthly rate you’ll be offered will fall in a range instead of matching up with your calculation. It also means that even after calculating the lease residual value, you should still shop around for the best deals.
How Residual Value Can Help Your Lease Search
You can use a car’s residual value to determine which lease is right for you. This is particularly true if you are interested in buying the car at the end of the lease. Although luxury cars depreciate the fastest, you can find the luxury vehicle that’s most likely to retain its value the longest. Additionally, you can find low-end vehicles that do a better job retaining their value. Some automobile brands do a better job of retaining residual value than others.
By focusing on cars with the highest residual value, you can minimize your monthly car payments without sacrificing quality. Once you’ve found a selection of brands or models with high residual values, you can begin shopping for a lease. Oftentimes, demonstrating that you know a vehicle’s value can help you get better arrangements from dealers pressured to move products.
Additionally, even if a particular company cannot get you a fair deal, you can shop around for better deals. Knowing a particular model’s lease residual value ensures that you do not end up paying an unfair price or selecting a vehicle that depreciates quickly.
Armed with the residual values and anticipated monthly payment of multiple cars, you can visit dealerships and ask about what deals they can offer. You will get the best price by knowing what models you want, how much you should pay and how they calculate that amount. You can even bring notes to show how you have calculated your selected vehicle’s residual value.
During negotiations, it can be easy to get thrown off track by a dealer’s quotes, figures and calculations. Coming in with your own calculations can minimize your confusion and increase your confidence. This will improve your chances of getting the best possible deal on a lease.