Agreed, you need to work out the numbers to see how it might work out. But in general terms, I'm talking about those who see that nice lease payment that's 100 bucks less than buying, decide to buy at lease end and are stuck with a much higher used vehicle interest rate than if they had taken the 0.9 right from the start. And I do see your point that if you get that super low money factor, you pay next to nothing in interest during the lease term so I guess the interest paid if and when financing the residual wouldn't hurt as badly.

That's why I pay close attention to your posts - you've got all the bases covered.

Sorry, but I have to disagree. The monthly payment the document is referring to represents all the types of items subject to sales tax that are included in the monthly payment. The tax is calculated once based on that amount. Yes, the lease payment will change if you put that into the capitalized cost but you would not recalculate the tax. If you took that approach, it would be an endless cycle of recalculating the “monthly payment” each time you adjusted the tax and changed the capitalized cost. btw, this is not the just the opinion of a frequent poster to this forum, but if Edmunds.com existed 30 years ago when I was maintaining my continuing profession education requirements and paying my registration fees, my user name would have been huskerfan5, CPA.

"If you finance the residual at lease end, you are essentially paying double interest on that amount of money. Example: If you lease an Accord EXL for a cap cost of 25k and residual of 15k, you would pay $30 a month interest on a money factor of .00075 (25k + 15k x .00075). If you then purchase the vehicle at lease end and finance, you're paying interest again on the 15k."

Actually, that's not true because you're really paying interest on the unpaid lease balance. Interest is levied on the depreciated balance (i.e, outstanding lease balance) beginning with the adjusted captialized cost and terminating at the resididual vaue. I think where you may be getting hung up is with the expression...

.00075 (25k + 15k x .00075).

which is inaccurate to start with. It should be...

.00075 (25k + 15k)

which yields the interest on the average unpaid balance. I think you know the correct formula but forgot to distribute 0.00075 to the 25k as well. I also believe that you wanted to illustrate that interest is levied on the residual as follows...

0.00075 x 25k + 0.00075 x 15k

But, that line of thinking isn't quite right. Theoreticially, the formula for the interest component is ...

(interest rate/12) (adj. cap + residual value)/2.

This simplifies to...

(interest rate/24) (adj. cap + residual value)

where (interest rate/24) is just the money factor (interest rate is expressed as a decimal instead of a percent).

So, given .00075 (25k + 15k), it's understandable why a lot of people mistakenly believe that interst is levied on the residual... it's not. Again, it's levied on the outstand lease balance which starts with the adj. cap cost and ends at the residual value. So, those that execute a residual buyout, are, indeed, picking up where the lease left off. That is, the lease ends at the residual and the buyout begins at the residual.

You may want to check out the following lease amortization schedule...

John - thanks - went back and looked at the post i made and somehow what I posted is not what I meant - typo I guess. I'm familiar with leasing so I understand that it should've been .00075 (25k + 15k). I should've proofread more closely. But if you indeed apply the money factor to the entire 40k during the lease term, how is that not paying interest on the residual?

Why would the residual even need to be in the formula?

A lease is amortized in much the same way that a loan is amortized. You begin by computing interest on the adlj. cap less the first payment. The interest is deducted from the base payment to determine the amount of principle to be deducted from the previously lease balance. This process continues for the entire term of the lease. The ending lease balance is the the residual value. At that point, you'll either return, trade, or buy the car for the amount of the residual. If you buy, you'll have to pay tax on the residual which can be financed.

But, you never pay interest on the residual because the lease balance, which always exceeds the residual, is reduced each month until the final balance is reached. This balance is the residual. Now, if you extended the lease for an additional 3 months beyond say, a 36 month lease for example, then some fund providers may continue to amortize the lease beyond the residual so that after 39 months, you could buy the car for something less than the residual. This is the only situation in which one would pay interest on the residual. I think if you click on the link and look at the lease amortization schedule that I provided in the earlier post, you'll see what I'm talking about.

Thanks John - I'm gonna take a look at your info when I can devote some more time to this. I've never looked at it this deeply. I just made an edit to my response to you that you probably haven't seen. You're making perfect sense but I guess where I get hung up is why does the residual even have to be in the formula if there is no interest on it? Why wouldn't the interest (money factor) not just be applied to the cap cost?

Brian, if you need more help when it's time to lease, just invite us down to your place in Myrtle Beach and we'll answer all your questions, but don't invite the AutoLeaseGeek or Bill won't come

That's ok - John seems to be a good guy and he only wants to make sure the leasing info is correct so I'd have no problem throwing down a beer with him if he's so inclined. I don't have time to study his site at the moment but will later on. Gary - what am I missing here - if there is no interest calculated on the residual, why is it a part of the formula that calculates the monthly cost of the lease?

They use the residual, because the amount subject to finance charges is an average of the CAP cost and the residual... Rather than adding them together, and then dividing by 2, they just add them together and make the division adjustment to the money factor.

Think of it as a loan.. where you borrow the CAP cost, then pay the principal down to the residual amount... While a loan wouldn't have equal finance charges throughout, a lease does (which makes it easier to calculate)..

Ok guys - I think you finally got through to this thick military mind - just did a loan calc based on my original example and the amount of interest comes out right for 32.5k financed at 1.9 for 36 months. I've just always looked at it simply as money factor multiplied by the sum of cap cost and residual. Now if we can get Brian to fly us into myrtle beach, we're set.

You said essentially the same thing I said. However, your explanation is much shorter, easy to understand, and much more elegant than mine. Wish I had thought of it.

Thanks John - and thank you for educating me on the more intricate mechanics of the accounting used to calculate the cost of a lease. I know you recognized what I was getting at (you obviously hear it a lot). I was trying to make the point that it might cost more in the end if, at lease end, the residual is financed at a used car interest rate rather than just doing a conventional finance right from the start at 0.9 or 1.9. I just stated it poorly.

Anyway, thanks for your help and I will be sure to check out your site in detail over the next few days.

Thanks for the info kyfdx - between you and John, I see that auto lease amortization is a bit more complicated than the simple formula we all know and love. Using the formula you and John provided, I still come out with the same figure I had for the monthly lease cost so I guess all is good. I have been doing some looking and haven't come across a program or spreadsheet that calculates the detailed amortization. It's not critical to getting a good lease deal but it would be one of those nice to have things to have all the details at your fingertips. Again, thanks for your help.

Well.. a lease always has a straight-line amortization, unlike a loan..

When you calculate the monthly finance charge, that's not an average of all months, but the same every single month...

So... if the CAP cost is $36K and the residual is $18K on a 36 month lease, then the lease balance will drop exactly $500, each month... And, the finance portion of the lease will be calculated on an average of the CAP + Residual.. so, finance charges apply to $27K, each month, regardless of current lease balance (in this example).

You see - that's what I thought and that's one reason this whole discussion started - my perception of a simplified formula that included the residual led me to believe there is interest charged on the residual. John's spreadsheet indicates differently. It shows amortization similar to a home mortgage where the interest is greater and the reduction of the remaining balance smaller at the beginning of the lease. A monthly interest charge is applied to a continually decreasing lease balance until the end of the lease term leaving only the residual as the remaining balance. I've never had a reason to look beyond the old mf(cap cost + res) formula so this is all new to me. And after looking at John's background and website, I've been enlightened.

Thanks John - I did look at the amortization sample earlier today and it was very helpful - I think it cleared up my misperception of how the interest is applied. I say "think" because in kyfdx's post just prior to yours, he states the application of the interest and reduction of the balance owed is straight line. The spreadsheet sample seems to show that's not the case. I guess maybe that's what many of us believe because of the way lease agreements are structured.

Your spreadsheet is a neat little tool - we "regular" guys can probably still negotiate good lease deals without the detailed breakdown, but it sure is nice to have it available if needed. I will come looking for you if I need some help and I will refer folks to your website if they are looking for help.

With all due respect, I have to disagree. A lease does not use straight-line amortization. It is amortized in the very same way that a loan is amortized. If you examine almost any lease contract, it will always reference the method of amortization. Many compute the lease balance (often called the adjusted lease balance) using the actuarial or constant yield method which equates to the interest rate implicit in the lease. It's not just used for early termination. It's actually used to compute the outstanding lease balance at any point in time.

I'm currently leasing a Honda CR-V and the balance that appears on my monthly AHFS statement coincides, to the penny, with the balance in my lease amortization schedule. I've evaluated many lease contracts and I haven't come across one yet that doesn't apply the constant yield or actuarial rate against the unpaid lease balance to compute the monthly lease finance charge. It then deducts this charge from the base payment (payment without surcharges like tax) to determine the amount of the depreciation charge to be deducted from the previous lease balance to determine the current lease balance. This iterative process continues throughout the term of the lease so that at lease end, the lease balance is exactly equal to the residual value. The lease finance charge does decline every month while the lease depreciation charge rises similar to what happens with a loan. The depreciation is analogous to principle paid on a loan while the lease finance charge corresponds to the interest paid on a loan.

The depreciation and rent charges disclosed in a lease contract simply reflect the total of these charges. When divided by the term in months, you get the monthly average as I'm sure you know. The money factor formula gives only the monthly average of these charges. It is not meant to imply or suggest that the monthly finance charge (i.e. rent charge) or monthly depreciation charge are constant amounts or remain fixed throughout the duration of the lease. This can be confusing as Bill suggested when he stated in the previous post...

"I guess maybe that's what many of us believe because of the way lease agreements are structured."

Thank you, Bill. A lease is amortized just like a loan. Please see my post to kyfdx. There is no question that it can be very confusing based on itemized disclosures made in lease agreements.

Well.. gee... now, I'm going to have get my last lease paperwork out of the closet and look..

Every lease I've paid off early, has had straight line amortization (as you say, down to the penny).. Granted, I haven't paid one off early since about 2001....

Using the interest method of amortization is certainly more consistent with generally accepted accounting principles. The rules haven't changed in years so my guess was that your leases were with privately held companies that didn't issue financial statements.

You nailed it! Accounting for consumer retail leases falling under FRBB Reg. M should comply with GAAP & FASB criteria. Never seen a lease amortized any other way and I've been analyzing them since 1986. There may be institutions, though, that are exempt from complying with these standards but I'm not aware of any.

Are you sure about that? In the section titled "Dealer Financing of the Sales Tax" it says:

In some instances, the lessee may want to finance the tax due at the time of entering into the lease. In this case, the lessee may ask the dealer/lessor to lend the lessee an amount equal to the tax due on the lease and to add the amount of that loan into the total to be paid under the lease. In effect, the lessor would lend the lessee an amount equal to the tax due and then build repayment of this loan into the lease payments due under the lease.

If the dealer/lessor is willing to lend the amount of tax due to the lessee, it will have to re-compute the total amount of the monthly lease payments and thus the total amount due under the lease, in order to recover the principal amount of the loan, plus any interest on that principal. As a consequence of the dealer/lessor increasing the amount of the monthly lease payments to recover the money loaned (plus any interest), the dealer/lessor will also have to increase the amount of sales tax due on the increased lease payments. This will result in a higher tax due than if the lessee paid the tax in full at the time of entering into the lease.

I don't mean to steal husker's thunder but I'm very sure. It doesn't matter whether taxes or widgets are financed in the lease, the lessor must still recover all amounts advanced or capitalized in the lease. In the case of taxes, the dealer simply writes a check to the State for the amount of tax and the fund provider reimburses the dealership accordingly when funding the lease. No need to re-compute lease payments. The total amount due under the lease includes taxes and any other items financed in the lease like dealer doc fees, acquisition fees, or negative equity on a traded vehicle.

There are different methods used to compute sales tax used by States. You made the following statement...

"As a consequence of the dealer/lessor increasing the amount of the monthly lease payments to recover the money loaned (plus any interest), the dealer/lessor will also have to increase the amount of sales tax due on the increased lease payments. This will result in a higher tax due than if the lessee paid the tax in full at the time of entering into the lease."

This is simply not true if taxes are computed correctly. In fact, this issue is addressed at...

## Comments

496That's why I pay close attention to your posts - you've got all the bases covered.

Thanks, Bill

165btw, this is not the just the opinion of a frequent poster to this forum, but if Edmunds.com existed 30 years ago when I was maintaining my continuing profession education requirements and paying my registration fees, my user name would have been huskerfan5, CPA.

606You made the following comment...

"If you finance the residual at lease end, you are essentially paying double interest on that amount of money. Example: If you lease an Accord EXL for a cap cost of 25k and residual of 15k, you would pay $30 a month interest on a money factor of .00075 (25k + 15k x .00075). If you then purchase the vehicle at lease end and finance, you're paying interest again on the 15k."

Actually, that's not true because you're really paying interest on the unpaid lease balance. Interest is levied on the depreciated balance (i.e, outstanding lease balance) beginning with the adjusted captialized cost and terminating at the resididual vaue. I think where you may be getting hung up is with the expression...

.00075 (25k + 15k x .00075).

which is inaccurate to start with. It should be...

.00075 (25k + 15k)

which yields the interest on the average unpaid balance. I think you know the correct formula but forgot to distribute 0.00075 to the 25k as well. I also believe that you wanted to illustrate that interest is levied on the residual as follows...

0.00075 x 25k + 0.00075 x 15k

But, that line of thinking isn't quite right. Theoreticially, the formula for the interest component is ...

(interest rate/12) (adj. cap + residual value)/2.

This simplifies to...

(interest rate/24) (adj. cap + residual value)

where (interest rate/24) is just the money factor (interest rate is expressed as a decimal instead of a percent).

So, given .00075 (25k + 15k), it's understandable why a lot of people mistakenly believe that interst is levied on the residual... it's not. Again, it's levied on the outstand lease balance which starts with the adj. cap cost and ends at the residual value. So, those that execute a residual buyout, are, indeed, picking up where the lease left off. That is, the lease ends at the residual and the buyout begins at the residual.

You may want to check out the following lease amortization schedule...

https://autoleasegeek.com/wp-content/uploads/2010/12/sample-lease-amortization-s- chedule.pdf

Hope this helps.

John

TheAutoLeaseGeek

496Why would the residual even need to be in the formula?

You can do the short version if you want.

Thanks, Bill

606Yup, I thought so.

A lease is amortized in much the same way that a loan is amortized. You begin by computing interest on the adlj. cap less the first payment. The interest is deducted from the base payment to determine the amount of principle to be deducted from the previously lease balance. This process continues for the entire term of the lease. The ending lease balance is the the residual value. At that point, you'll either return, trade, or buy the car for the amount of the residual. If you buy, you'll have to pay tax on the residual which can be financed.

But, you never pay interest on the residual because the lease balance, which always exceeds the residual, is reduced each month until the final balance is reached. This balance is the residual. Now, if you extended the lease for an additional 3 months beyond say, a 36 month lease for example, then some fund providers may continue to amortize the lease beyond the residual so that after 39 months, you could buy the car for something less than the residual. This is the only situation in which one would pay interest on the residual. I think if you click on the link and look at the lease amortization schedule that I provided in the earlier post, you'll see what I'm talking about.

Am I making sense?

John

496Thanks for the help,

Bill

165496Thanks, Bill

Sorry I opened Pandora's box

53,790Think of it as a loan.. where you borrow the CAP cost, then pay the principal down to the residual amount... While a loan wouldn't have equal finance charges throughout, a lease does (which makes it easier to calculate)..

MODERATORPrices Paid, Lease Questions, SUVs

606Because the formula...

MF x (Adj. Cap + Residual) reflects interest on the estimated average lease balance through the entire term. The expression...

(int rate/12) x (adj cap + residual)/2 is equivalent to the above formula. The term...

(adj cap + residual)/2 reflects the estimated average lease balance while the term...

(int rate/12) reflects an estimate of the monthly interest rate.

Remember that the formula [money factor x 2400] that is often quoted only gives an estimate of the interest rate. It's very close but it's not exact.

John

496Thanks,

Bill

606John

606You said essentially the same thing I said. However, your explanation is much shorter, easy to understand, and much more elegant than mine. Wish I had thought of it.

John

606Many thanks for your highly valued service to our country! May God Bless you and yours.

Regards,

John

53,790MODERATORPrices Paid, Lease Questions, SUVs

496Anyway, thanks for your help and I will be sure to check out your site in detail over the next few days.

Take care, Bill

606All the Best,

John

496Bill G

53,790When you calculate the monthly finance charge, that's not an average of all months, but the same every single month...

So... if the CAP cost is $36K and the residual is $18K on a 36 month lease, then the lease balance will drop exactly $500, each month... And, the finance portion of the lease will be calculated on an average of the CAP + Residual.. so, finance charges apply to $27K, each month, regardless of current lease balance (in this example).

Hope that helps a little..

MODERATORPrices Paid, Lease Questions, SUVs

606The link I provided earlier...

https://autoleasegeek.com/wp-content/uploads/2010/12/sample-lease-amortization-s- - - chedule.pdf

directs you to a complete lease amortization schedule that was done on Excel.

John

496496Your spreadsheet is a neat little tool - we "regular" guys can probably still negotiate good lease deals without the detailed breakdown, but it sure is nice to have it available if needed. I will come looking for you if I need some help and I will refer folks to your website if they are looking for help.

Thanks John

Bill

606With all due respect, I have to disagree. A lease does not use straight-line amortization. It is amortized in the very same way that a loan is amortized. If you examine almost any lease contract, it will always reference the method of amortization. Many compute the lease balance (often called the adjusted lease balance) using the actuarial or constant yield method which equates to the interest rate implicit in the lease. It's not just used for early termination. It's actually used to compute the outstanding lease balance at any point in time.

I'm currently leasing a Honda CR-V and the balance that appears on my monthly AHFS statement coincides, to the penny, with the balance in my lease amortization schedule. I've evaluated many lease contracts and I haven't come across one yet that doesn't apply the constant yield or actuarial rate against the unpaid lease balance to compute the monthly lease finance charge. It then deducts this charge from the base payment (payment without surcharges like tax) to determine the amount of the depreciation charge to be deducted from the previous lease balance to determine the current lease balance. This iterative process continues throughout the term of the lease so that at lease end, the lease balance is exactly equal to the residual value. The lease finance charge does decline every month while the lease depreciation charge rises similar to what happens with a loan. The depreciation is analogous to principle paid on a loan while the lease finance charge corresponds to the interest paid on a loan.

The depreciation and rent charges disclosed in a lease contract simply reflect the total of these charges. When divided by the term in months, you get the monthly average as I'm sure you know. The money factor formula gives only the monthly average of these charges. It is not meant to imply or suggest that the monthly finance charge (i.e. rent charge) or monthly depreciation charge are constant amounts or remain fixed throughout the duration of the lease. This can be confusing as Bill suggested when he stated in the previous post...

"I guess maybe that's what many of us believe because of the way lease agreements are structured."

Regards,

John

606Best,

John

53,790Every lease I've paid off early, has had straight line amortization (as you say, down to the penny).. Granted, I haven't paid one off early since about 2001....

I believe you, though...

MODERATORPrices Paid, Lease Questions, SUVs

165606You nailed it! Accounting for consumer retail leases falling under FRBB Reg. M should comply with GAAP & FASB criteria. Never seen a lease amortized any other way and I've been analyzing them since 1986. There may be institutions, though, that are exempt from complying with these standards but I'm not aware of any.

John

11In some instances, the lessee may want to finance the tax due at the time of entering into the lease. In this case, the lessee may ask the dealer/lessor to lend the lessee an amount equal to the tax due on the lease and to add the amount of that loan into the total to be paid under the lease. In effect, the lessor would lend the lessee an amount equal to the tax due and then build repayment of this loan into the lease payments due under the lease.

If the dealer/lessor is willing to lend the amount of tax due to the lessee, it

will have to re-compute the total amount of the monthly lease payments and thus the total amount due under the lease, in order to recover the principal amount of the loan, plus any interest on that principal. As a consequence of the dealer/lessor increasing the amount of the monthly lease payments to recover the money loaned (plus any interest), the dealer/lessor will also have to increase the amount of sales tax due on the increased lease payments. This will result in a higher tax due than if the lessee paid the tax in full at the time of entering into the lease.

606There are different methods used to compute sales tax used by States. You made the following statement...

"As a consequence of the dealer/lessor increasing the amount of the monthly lease payments to recover the money loaned (plus any interest), the dealer/lessor will also have to increase the amount of sales tax due on the increased lease payments. This will result in a higher tax due than if the lessee paid the tax in full at the time of entering into the lease."

This is simply not true if taxes are computed correctly. In fact, this issue is addressed at...

https://autoleasegeek.com/1182/evidence-that-the-lease-ledger-doesn’t-al- - ways-balance-disclosure-reform-needed-in-the-vehicle-leasing-industry

Hope this helps.

John

11The quote that you pulled out from my post wasn't my own statement; it was taken directly from the NY State Dept. of Taxing and Finance document here: http://www.tax.ny.gov/pdf/publications/sales/pub839.pdf (page 15)