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Breaking
the terms of a lease must have consequences
- April 12, 2008
I'm surprised by how many customers sign auto
lease agreements without fully understanding
the terms.
Here's a situation that occurs frequently
at new-car dealerships:
A customer leases a car for, say, a four-year
term. When he signs the lease agreement, the
customer appears happy with the car and the
terms.
Three years later, the customer decides he
wants to get out of the lease early. People
do this all the time for a number of reasons:
family situation changes, illness, job loss,
etc.
What's surprising is the reaction of some
customers when they learn the financial consequences
that will result from breaking the terms of
their lease. They fail to recognize that they
are responsible for fulfilling all of the
terms of the agreement.
Let's compare the market value of a leased
vehicle worth $17,565 with the payment history
over a 48-month term. The monthly lease payment
is $399 (including taxes).
The market value of the vehicle will decrease
(steeply at first, then gradually) throughout
the entire term of the lease. At every point
in the 48-month term, the vehicle's value
remains less than the total amount of depreciation
the customer has paid.
Any attempt to terminate the lease before
the 48-month mark will result in a deficit
on the vehicle, for which the lessee is responsible.
Obviously, the sooner the lease is terminated,
the larger the deficit (hence, the more the
customer will owe).
Only at the 48-month mark do the monthly payments
and vehicle's market value actually meet.
We also often see customers who return leased
vehicles with excessive kilometres. A standard
lease agreement includes an "excessive
kilometre clause," which stipulates that
any kilometres over a specified number is
subject to a 7- to 15-cent (on average) surcharge
per kilometre.
Lease agreements can be structured to make
allowances for excessive kilometres.
This will result in larger monthly payments.
In other words, lessees are paying for the
added depreciation up front, each month, as
opposed to paying for it at the end of the
lease.
The excessive kilometre clause is included
in lease agreements for good reason.
When a vehicle is returned to the dealership
in good condition, with the number of kilometres
outlined in the agreement, then the vehicle
has a certain residual value to the dealer.
If the residual value is less than what it
should be because of high kilometres or inconsistent
maintenance, then the lessee is responsible
for any shortfall in market value.
It's no different than if you lease a computer
or a photocopier. If you decide midway through
the lease that you no longer want the equipment,
you can't just return it to the store without
any financial consequences.
There are ways to avoid paying the financial
penalties, if you want to get out of an auto
lease early.
For instance, you could transfer your lease
to another person (friend, neighbour, family
member), who would assume the obligations
for the duration of the lease.
Leasing is a preferred option for thousands
of Canadians each year. I would never dissuade
someone from exploring leasing, if it fits
his budget and driving habits.
But I strongly recommend that potential lessees
do their research before signing any agreement.
Make sure you understand every term and clause
contained in the lease.
Understanding the terms will allow you to
avoid any unpleasant surprises in the event
you want to terminate a lease early.
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