Blog Residual Value: How It Affects the Cost of a Car Lease

Residual Value: How It Affects the Cost of a Car Lease

May 6, 2020

Car buying has its own language, which can be intimidating for many new car shoppers. Residual value, for example, is a financial term new car shoppers can encounter, but many people buying or leasing a new car don’t understand. Some shoppers understand that residual value is the estimated depreciation and future value of a vehicle after a certain amount of time. But how is it calculated? And how does it affect the price of my car lease?

Many shoppers remain confused by the term and its definition. Shoppers like Lawrence, who was recently leasing a new luxury SUV. “I was getting ready to sign the deal, when the finance company brought up residual value,” says the Southern California furniture maker. “She tried to explain how it’s calculated and affected the price of the lease and the monthly payment cost, but I just didn’t understand the accounting and how it would affect the cost of the lease over three years.” If you’re like Lawrence, reading this article will help you better understand the definition of residual value. Whether you choose to buy or lease, this is very important when you’re shopping for a new car in today’s market. In this article we’ll answer these important questions:

What is residual value?

Residual value is the estimated depreciation and future value of a vehicle after a certain number of years. In other words, residual value is the estimated worth of the vehicle at the end of the lease term, whatever that may be, usually three years. For example: Lets say you lease a car with an MSRP of $30,000 for a 36-month term with an agreed mileage of 10,000 miles a year. The vehicle may have a projected worth of $15,000 when it is three years old and has been driven 30,000 miles. Therefore, the cars residual value is $15,000 or 50 percent. You can also think of residual value as the projected future price of the car after you have completed the agreed term of your lease. It is now a used car or maybe a certified pre-owned vehicle and it will be sold again. Remember, after you complete the lease and return the vehicle, the car dealer or finance company or credit company or the bank will have to resell that car to another customer. The residual value of the vehicle is the estimated remaining value of their asset. The insurance cost of a new leased vehicle is not a factor when it comes to residual value. However, the cost to insure any leased car or SUV is an important part of the owners accounting management.

How to find residual value?

What makes residual value such a mystery for so many car shoppers is that the numbers aren’t spread all over the internet like every car’s MSRP and invoice price. To find the residual value of the car you plan to purchase or lease, you have to calculate it yourself. Don’t worry, it’s pretty easy. This is important, as the car’s residual value will have a large impact on the amount of the monthly payments of your lease. Plus, it will also affect the remaining value of the vehicle at the end of the lease. This is very important if you decide to buy the car at the end of the lease.

How to calculate residual value?

When it comes to the auto market, residual value is calculated as a percentage of the car’s MSRP, even if you have negotiated a lower sale or lease price of the car. Once you have the vehicle’s MSRP, which is available from the dealer or online, calculate residual value with these four easy steps:

For instance, if the car you want to lease for three years has an MSRP of $32,000 and a residual value is 50 percent, simply multiply 32,000 x 0.5, which equals $16,000. That’s really all there is too it, the residual value of the car at the end of the three-year lease is $16,000. This means that if you decided to buy the car at the end of your lease, after all of your monthly payments, the price would be $16,000. It’s also important to know that the car’s residual value is set by the leasing company. It is not set by the dealer and it is not negotiable. Because of this, different leasing companies may offer different residual rates. If you don’t like the residual rate offered it may still be possible to salvage the deal. It may make sense to shop around and try another leasing company. You may find a more favorable residual rate, however, the difference probably won’t be great.

What is the money factor?

Many new car shoppers confuse residual value with another term, The Money Factor. They are two very different things, but they both affect the monthly payment of the lease. The Money Factor is another way of expressing the interest applied to the lease.

Interest on a car loan is usually expressed as an Annual Percentage Rate or APR, and is usually between 1.99 percent and 9.99 percent. The Money Factor is this same interest rate, just expressed as a fraction, like .0015. To translate The Money Factor to the more common and easily understood APR simply multiply it by 2400. In this case that would be an APR of 3.6 percent. The Money Factor is also known as the lease factor or lease fee, and it determines how much interest you will pay every month as part of your car lease payment. The Money Factor only applies to the amount you are financing over the lease term, cash you put down or the value of any trade in vehicle is not affected by The Money Factor. Lessees can access The Money Factor simply by asking their dealer.

What cars have the worst residual value?

Cars that are in low demand for whatever reason usually have a lower residual value. This can simply be due to a shift in consumer taste or a vehicles recent history of poor reliability and dependability. Some brands, like Subaru and Land Rover, generally have higher resale values than others. There are many factors that contribute to a vehicles resale value and consumers should keep in mind that the value of every car and SUV depreciates at different rates. Just because a car has a low resale value, and therefore a low residual value, doesn’t necessarily mean it is a bad vehicle. In 2018, these were some of the cars that lost the highest percentage of value over the previous five years. Some of the cars on this list will surprise you.

  1. Chevy Impala
  2. Jaguar XJL
  3. Mercedes-Benz E-Class
  4. BMW 5 Series
  5. BMW 6 Series
  6. Ford Fusion Energi Hybrid
  7. Mercedes-Benz S-Class
  8. BMW 7 Series
  9. Chevy Volt
  10. Nissan Leaf

What SUVs have the worst residual value?

With the continued growing popularity of SUVs, they are usually losing value slower than many cars. But some SUVs hold their value better than others. Here’s a list that have lost their value quicker than most over the last 3 years.

  1. Chevy Traverse
  2. Acura MDX
  3. Buick Encore
  4. Kia Sorento
  5. GMC Acadia
  6. BMW X5
  7. Lincoln MKC
  8. Mercedes-Benz M-Class
  9. Buick Enclave
  10. Cadillac SRX

What cars have better residual value?

As we said before, the dealer doesn’t set the cars residual value. Instead, it’s set by the leasing company, which often relies on outside organizations to gather the required data and predict the cars future value after extensive analysis. One of the most widely used organizations of this type is ALG of Southern California. Every year, ALG hands out its Residual Value Awards in 26 vehicle classes of cars, trucks, and SUVs. Here’s the list of the top new cars ALG thinks will retain a higher percentage of their MSRP than their competitors after the next three-years. Higher than any other vehicle of their same type and size.

  1. 2019 Audi A3
  2. 2019 Dodge Charger
  3. 2019 Honda Accord
  4. 2019 Honda Fit
  5. 2019 Lexus LS
  6. 2019 Lexus RC
  7. 2019 Nissan GT-R
  8. 2019 Subaru Impreza
  9. 2019 Subaru WRX
  10. 2019 Volvo V90

What SUVs, Trucks and Vans have better residual value?

This year Land Rover and Subaru essentially dominated the Residual Value Awards. The two brands took seven spots on this year’s list of 11 SUVs and two Subarus were also honored on ALGs list of cars. We should also mention that there were also four Hondas awarded this year.

  1. 2019 Jaguar I-Pace
  2. 2019 Jeep Wrangler
  3. 2019 Land Rover Discovery Sport
  4. 2019 Land Rover Range Rover
  5. 2019 Land Rover Range Rover Sport
  6. 2019 Land Rover Discovery
  7. 2019 Toyota Sequoia
  8. 2019 Honda Pilot
  9. 2019 Subaru Forester
  10. 2019 Subaru Outback
  11. 2019 Subaru Crosstrek

In the pickup truck categories, it was the 2019 Toyota Tundra and 2019 Toyota Tacoma that came out on top. And in the van categories, 2019 Honda Odyssey, 2019 Mercedes-Benz Sprinter and 2019 Mercedes-Benz Metris took the top honors.

How does residual value affect the cost of a car lease?

Automakers and car buyers both benefit from high residual values. The higher the vehicle’s residual value the lower the cost of the car lease over its term, and the more the car is worth at the end of that lease. That’s why those ALG awards are so coveted by automakers. Basically the lower the difference between cars MSRP and its residual value, the less risk there is for the finance institution who actually owns the leased vehicle. Therefore, the less expensive your lease monthly payments will probably be. Buyers should also remember that the interest rate of any lease, unlike the residual value of the vehicle, is affected by the individual’s credit rating. But it may be higher or lower depending on the credit institution, so shop around for the best finance rate. Now that you understand residual value, as well as the money factor, calculating the monthly payments of any car lease should be a snap. Simply add up the cars projected depreciation or residual value with the calculated interest and tax on the negotiated amount financed over the term of the deal. Then divide by that total by the number of months, usually 36. Yes, the language of car buying can be intimidating for many new car shoppers. However, now that you understand residual value, how it is calculated and how it affects your monthly lease payment, it isn’t so scary.