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Should you buy your car or lease it? This is a question that we hear often and as usual, the answer is that *it depends.* It is also an answer that I could compose an entire book about.

First of all, let me start with the most practical advice from a personal finance perspective which is that you should do either if they involve a new car. A car loses 15% to 20% of its value the first year. This is a big hit that is better left for someone else to take. With that being said, most of you who know me can know call me a hypocrite because I have not purchased a used car since I was in college. There is nothing like pulling away from the dealership in a shiny new vehicle with the seductive new car smell.

Now that we have determined that you are getting a new car against my advice, we can get down to the details of whether you should lease it or buy it. First, you must understand that the basic premise of leasing is that it is simply another way to buy the vehicle. You are not renting the vehicle from the manufacturer. Car dealers love leasing cars because it is very easy for them to tinker with the numbers and make a much higher profit. It is important that you, as the buyer, understand how leases are calculated.

To better understand how leasing works, think of a conventional loan. At the beginning of the loan, you owe the purchase price (less any down payment, etc) of the vehicle. At the end of the loan, you owe nothing. A lease is very similar, except at the end of the term, you owe the residual value stated in the lease. At the end of the lease, you must give them this value * either by turning the car in or by paying them the residual value. When you think of the lease like this, it is similar a purchase with a balloon payment at the end of the term.

Almost all automobile leases today are closed end leases, and that is what I will discuss here. If you are considering a lease, be sure to confirm that it is a closed end lease before signing. In a closed-end lease, the leasing company bares the risk of the depreciated value because the residual value is set at the onset of the lease. If at the end of the lease, the vehicle is worth more than the preset value, you can still buy the vehicle for the preset residual value. If the vehicle is worth less than the preset value, you have the option to turn the car in and the leasing company takes the hit for the difference.

Advantages to Leasing:

Monthly Cash Flow. Leasing provides better monthly cash flow. If you are an individual that likes the benefits of leveraging yourself and your investments, this can be advantageous. If you can invest the monthly savings into an investment at 15%, 20%, or even more, why would you tie up your funds when you are only saving 7% in interest? That is also true when buying a vehicle and paying cash. Why would someone tie up $35,000 in cash when they can earn much greater returns on that cash? With this being said, most people are not investing in things that consistently give them these returns. In addition, ninety percent of the people that plan to use this leverage at the onset of the lease never do. They end up spending the money on other expenses that have no long-term value. If you plan to use leverage, be sure to set it up immediately and stick to your plan. I do not recommend this for most people because over ninety percent people do not have the will to stick to the investment plan. If this is the case, they are better buying and saving the additional interest that they will have to pay.

Gap insurance. Most leases provide for gap insurance at no additional cost. Simply speaking, gap insurance covers the difference between what you owe on a vehicle and what it is worth. With little or no down payment, this gap will usually exist whether you finance a vehicle traditionally or lease it * although the gap is usually larger when leasing since a smaller portion of your monthly payment goes toward reducing your financed balance. If you are in an accident and total your leased vehicle (assuming your lease provides gap insurance), the insurance would cover your equity difference. If you financed the vehicle, you would be required to pay the difference yourself. While this sounds like a big advantage for leasing, take it with a grain of salt. How often does one actually total their car and use the gap insurance? My guess is not that often. While it is usually an advantage toward leasing, I wouldn*t base my decision based on the gap insurance. Although it is not common, there are a few banks that offer gap insurance with traditional loans.

Taxes. If you are using the vehicle in your business, you can deduct a portion of the expenses related to it. The Internal Revenue Code limits that amounts you can deduct then you buy a vehicle through Luxury Automobile depreciation limits. These limits vary depending on how long the car has been in service, but range between $2,850 and $5,200 for the first three years that the car is in service. With a lease, you can deduct the full amount of your lease payment (based on your percentage of business use). This deduction can be significantly larger than you can deduct through a purchase. I recommend consulting your tax advisor to determine if you qualify and what your deductions may be.

Advantages to Buying

Long-term Cash. Long-term cash outlay is almost always less with a purchase. This is true whether you plan to purchase a new car every 3 years or every 10 years. If you plan to keep the vehicle an extended period of time, the cash outlay can be considerably less by buying it. If you are the type of person that wants to have a car that is completely paid for with no payment, traditional financing is the option for you. It is the fastest route to eliminating a monthly payment.

Miles. If you buy the car, you can put as many miles on it that you like. When you lease a vehicle, you are limited in the number of miles that you put on the vehicle. Approximately 10 percent of all leasers exceed their mileage allowance and it is not uncommon for leasers to exceed this allowance by 5,000 miles per year. At 15 cents per mile, this can result in additional payments at the end of the lease well in excess of $2,000. There are many variables that can change related to your annual mileage. Be sure to examine them before deciding to lease a vehicle.

Taxes. If you are using the vehicle in your business, you can deduct a portion of the expenses related to it. Section 179 of the Internal Revenue Code allows qualifying businesses to deduct the full cost of equipment purchases in the current year (up to $128,000 in 2008 including up to $25,000 for qualifying automobiles). The catch related to cars is that they are typically not considered equipment. For them to qualify, they must be at least 6,000 lbs of gross vehicle weight (as determined by the manufacturer). If you are searching for an SUV or truck that you will be using in your business, be sure to find out the weight and check with your tax advisor on whether or not your business qualifies.

Buy or Lease?

As you can see, there are advantages and disadvantages to both options. In addition, many of the advantages or disadvantages do not apply to all people. As a general rule of thumb, I believe most people are better off buying the vehicle because most people do not have the financial discipline to make good use of the monthly cash flow savings. As with any major decision, I would suggest contacting your tax and financial advisor to help determine which is right for your situation.