Leasing a car vs buying outright: which is better?

Leasing a car vs buying: what you need to know

The decision to buy vs lease a car will ultimately come down to your individual needs and budget. For some, leasing a vehicle is convenient; providing the opportunity to use a car without spending a lot of cash upfront, and avoiding additional running costs such as maintenance and rego. For others, owning a vehicle is the goal; you’re not locked into a contract and, once the loan is repaid (or if bought outright), the car is yours to keep, sell, or modify.

Pros and cons of a car lease

If you decide to enter into a lease agreement, make sure you understand your contract; calculate whether you can afford the repayments coming out of your pre-tax salary (for a novated lease), plus the payment of the residual amount at the end of the lease. There may be tax implications, especially with a novated lease, so speaking with a financial advisor could help crunch the numbers if you’re on the fence.

Before leasing a vehicle, it’s important to first understand the potential advantages and disadvantages involved. These may include:

Pros of a car lease

No large upfront payment

With a lease, you don’t need to pay a large upfront cost to start using the vehicle, like you would if you bought it outright or paid a deposit on a car loan.

Opportunity to drive latest models

Under a lease, you will typically have the option to trade in your vehicle at the end of the lease period for a newer or different model, without having to go to the effort of selling your old car.

Consolidated repayments

Many car lease agreements combine the purchase price of the vehicle (as well as any finance costs such as fees and interest) and running expenses (such as maintenance, registration and car insurance) into a single regular repayment. These repayments may be either paid by your employer (under a finance or operating lease) or taken out of your pre-tax salary (under a novated lease). This means you or your employer don’t have to come up with a large upfront payment for the vehicle or juggle multiple car bills at different times throughout the year, which could make it easier to budget.

Tax benefits for novated leases

If you take out a novated lease, the repayments made through your pre-tax salary could reduce your taxable income, according to the ATO. The ATO also says that as an employee with a novated lease, you can avoid paying GST on the purchase price of the vehicle (which is factored into your lease repayments) because it is considered part of your remuneration.

Cons of a car lease

You don’t own the car and can’t modify it

With a car lease you will not legally own the vehicle, and therefore can’t use it as an asset to secure a loan. On top of this, you typically are unable to make any modifications to the vehicle (such as tinting the windows or adding roof racks), unless you first get approval from the finance provider and potentially from your employer.

Mileage restrictions

Many finance providers have restrictions on how many kilometres you can drive the car over a certain period. If you do not follow these restrictions, you may be charged extra fees.

Administration fees and other charges may apply

Some car leases come with administration fees that are calculated into your repayments. You may also incur hefty fines if you terminate the lease contract prematurely. The interest rate you pay on your car lease may also be higher than those offered through a normal car loan.

Large residual value at end of lease

Under most lease agreements you are required to pay the residual value of the car at the end of the lease, unless you renew it or trade in the car for a new model. Depending on your lease term and the original cost of the car, the residual value you must pay may be significant. This may be covered by the sale of your car at the end of the lease, or alternatively you will be required to pay it if you choose to keep the car and do not enter another lease agreement.

Types of car leases

A car lease allows you to ‘borrow’ or ‘rent’ a vehicle from a car dealer or car finance provider for an agreed period of time while making regular fixed repayments. At the end of the lease period, you may have the option to extend the lease on the same car, trade it in for a new model, or pay the residual value of the car (often referred to as a balloon payment) to own it outright.

There are generally three different types of car leasing options available in Australia:

Novated lease

A novated lease (also known as ‘salary sacrificing’ a car) is a three-way agreement between yourself, your employer and a finance company. In this arrangement, your employer agrees to make lease repayments for a car directly to the finance company (which may be chosen by your employer) on your behalf, using your pre-tax salary. The salary deductions can also cover operational costs such as maintenance, fuel and insurance.

At the end of the novated lease period, you can generally decide whether to keep the car and pay the residual value (balloon payment), take out a new lease with a new car, extend your current lease, or sell your leased car and use the money from the sale to pay the residual value.

When you make repayments on a vehicle through your pre-tax salary, those repayments can reduce your taxable income and potentially lower the amount of tax you are required to pay each year, according to Moneysmart. However, there may be fringe benefits tax (FBT) implications for your employer if you receive a car through salary sacrificing. While it is your employer who is liable to pay FBT, depending on your agreement it may choose to reduce your salary by the amount of FBT it has to pay, according to the Australian Taxation Office (ATO).

Finance lease

This type of car lease is used primarily by businesses, where a finance provider or lender purchases a vehicle and leases it to a company for a fixed period in return for regular repayments. At the end of the lease term, the company may pay the residual value of the car to own it outright, or renew the lease for a newer model.

Operating lease

An operating lease works similarly to a finance lease, except the company does not pay the residual value of the car at the end of the lease period, and instead hands the car back to the finance provider. An operating lease often has a shorter term with the opportunity to upgrade more regularly.

Pros and cons of buying a car

If you are thinking of buying a car outright or using a car loan to secure your new wheels instead of a lease, there are some potential benefits and disadvantages to consider.

These may include:

Pros of buying a car

You own the car

Owning a car outright means you are able to use it as an asset for other borrowing or financial purposes. If you do buy the car with a car loan, then its title will be in your name, although the lender will still hold an ‘interest’ in the car while the debt is outstanding. Once you’ve fully paid off the loan, then the vehicle will be solely yours.

No limitations on modifications or mileage

When you buy a car and own it outright, you can modify it and use it as you please (so long as you comply with the laws in your state or territory and potentially your insurer’s requirements) and will not have any mileage limitations to worry about.

More choice

When purchasing a vehicle, you may have more options in choosing the car make and model than you would through a leasing company or your employer. Similarly, if you choose to take out a car loan, you have the opportunity to compare loans to find a competitive rate, which you may not have the option to do if leasing.

Potentially cheaper

When possible, buying a car outright is generally the cheapest option overall, as you won’t be required to pay any interest over the long term.

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Cons of buying a car

Higher initial costs

To buy a car, you will likely need a lot of money to pay the dealer or private seller. If you have a car loan, you may also have high monthly payments to consider.

Multiple bills to pay for upkeep

When you buy a car and own it outright, you will be responsible for paying the costs to keep the car running and maintained, as well as the costs of car insurance.

Depreciation

Purchasing a car ties up your capital in a depreciating asset, which may not be the best fit for everyone’s financial goals. As your car ages, it may become harder to resell later down the road, compared to a car lease where you can typically choose to upgrade at the end of the contract.

No model upgrades

You are unable to upgrade or change your mind about the model once you’ve bought a car, unless you sell your current vehicle and purchase a new one. With a car lease, you can often choose an upgraded model at the end of your current lease.

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