The Art of Leasing: How to profit from the back end of the deal
Consumers getting ready to say goodbye to their low mileage, off-lease vehicle might be throwing away thousands of dollars. That knockout full-size pickup, for example, might be worth purchasing and keeping, or purchasing and selling for as much as $5,000 above its residual value, the result of a red-hot truck market.
Meanwhile, depending on brand, some off-lease cars are selling for less at wholesale auctions than the vehicle’s residual value. It’s an opportunity for a family to purchase from their dealer a 3-year-old, off-lease sedan, possibly for $1,000 or $2,000 less than the car’s residual value.
Tim Fleming, a Kelley Blue Book analyst, said the first thing a lessee should do before returning an off-lease vehicle is determine its residual value.
“Dig up the paper work and find that number,” Fleming said. “Then find out what the car is worth. Mileage and condition are important. There is a ton of different ways to do that, there are many tools out there. Obviously I would recommend our website (kbb.com) and you can compare trade-in values.
“At that point they can start to consider the possibilities,” such as buying the off-lease vehicle, buying the vehicle to resell, purchasing a lower-priced used vehicle or leasing another vehicle. “Some people know they want to be in a new vehicle every few years. Other people have to make a choice,” he said.
First a primer: What is residual value? To determine the monthly payment and down payment for a leased vehicle, an automaker’s captive finance company, banks and other sources make an assumption on the vehicle’s value at the end of the 24- or 36-month term. This is called residual value.
If the vehicle depreciates faster than expected resulting in a value that is lower than predicted, the captive finance company and banks absorb the loss on each vehicle, which potentially can run into the hundreds of millions of dollars. The value of the off-lease vehicles is determined by auction prices. At the end of the lease, however, the lease contract stipulates the lessee can only purchase the vehicle at the residual value that was determined years earlier.
All in the family
There is the possibility with some automakers for a family member to purchase that vehicle for less than residual value. The savings could be $1,000, $1,500, maybe more depending on the brand and model, versus buying the vehicle for the residual value. Unfortunately, auction values are not publicized because the data is confidential.
An Illinois Buick dealer recently sold a 3-year old, off-lease Buick LaCrosse to the wife of the lessee. The family wanted to buy the car because it was a trouble-free, low mileage sedan. The General Motors Financial lease contract like all lease contracts stipulated that the lessee could only purchase the car for its residual value. However, the husband did not want to buy the car for that high price.
“We told him we can give him a better deal if we can put the car in your wife’s name,” said the Buick dealer who asked not to be identified.” The lessee agreed.
The dealer purchased the car from General Motors Financial and sold the car to the lessee’s wife. The family saved about $1,800 between the residual price and the dealer’s selling price. General Motors Financial gives dealers 48 hours to purchase an off-lease vehicle turned in at the originating dealership.
“He had been a very loyal customer and we wanted to give him the best deal,” the dealer said. “It works for everybody because if he buys from GM I don’t make anything. By doing it this way, I made about $300, $400. He’s happy, I’m happy.”
Wide range of values
But how GM Financial determined that vehicle’s selling price remains a mystery to the dealer. Nearly identical off-lease vehicles sometimes have a wide range of values.
“There is no rhyme or reason when they give us a buy number,” the dealer said. “We know what the residual is to the lessee but we have no idea what the residual is to us until we call in and tell them, ok, this is how many miles are on it, the condition, and then they tell us what we can buy it for. We haven’t been able to figure out how they arrive at our buy number. The range can be all over the place.”
Nick Heinz, vice president, marketing solutions at General Motors Financial, said the residual values that support the company’s lease program are largely determined by ALG. “Then depending on the vehicle, and the time of year, and the product cycle, there are then incentives that are applied to that overall lease product that could potentially impact what that contract residual looks like ultimately to drive to a competitive payment,” Heinz said.
But Heinz said there is nothing mysterious about the way the vehicle’s off-lease, wholesale price is determined for a General Motors dealer. “That is set, 100 percent based on auction values,” Heinz said. Vehicle values change weekly.
Heinz said the originating dealer can tell the lessee what options are available when the off-lease vehicle is returned. But General Motors Financial will not contact lessees directly and advise them how they might potentially be able to save thousands below residual value if a spouse or family member purchases the off-lease vehicle.
“As a captive for General Motors we will never go out and directly solicit a consumer in terms of offering them the ability to purchase their vehicle at a discounted rate or offer them direct a refinanced offer,” he said. “All of our communications and touch points with an off-lease consumer always drive them back to the GM dealer because they are the ones that are best equipped to be able to discuss their off-lease options.
“I think it is fair to say that most dealers would certainly want to get that customer back in front of a new GM product if that was the best option for that consumer,” Heinz said.
Chrysler Capital offers a similar off-lease purchasing program for a lessee’s spouse, family member or friend. “Individuals not on the lease may purchase the car from the dealer at an agreed upon price if the dealer opts to purchase the vehicle at market value at the end of the lease,” Chrysler Capital said in a statement. However, the dealer must purchase the vehicle before it is sent to an auction. Fiat Chrysler’s finance arm also can finance the vehicle.
Picking a winner
There are instances where the retail selling price for a used vehicle is way higher than its residual value, a potential windfall to the lessee. “The vehicles that are doing the best are pickups, full-size pickups, your Ford F-150, actually even your (Ford) 250 and (Chevrolet) 2500. Those do extremely well in the secondary market. They have defied our expectations,” Fleming said.
A few months ago an off-lease, well equipped, low-mileage Silverado 1500 pickup was returned to a Midwest Chevrolet dealer. The pickup had a residual value of about $23,000 but the lessee was not interested in purchasing the pickup. The dealer said that Silverado could easily be tagged for $30,000 on a used vehicle lot. After paying for state and local taxes, the lessee walked away from an opportunity to buy the vehicle, sell it on his own, and pocket a $1,000 or $2,000 profit.
Today, leasing accounts for 30 percent of retail sales, a record, up from about 20 percent in 2012. General Motors Financial says that approximately two-thirds of its lease customers lease another GM vehicle.
Incentives fuel leasing
“Leasing has grown significantly in recent years because incentive dollars have gone towards leasing,” Fleming said. “You have seen a lot of manufacturers move away from cash rebates (on purchases). Instead, that money goes into the residual, basically for capital cost reductions, juicing the residual to make the lease more affordable.” The rational is that once a consumer is a lessee, hopefully he or she will remain loyal to the brand, becoming a lessee for life.
The problem for the auto industry and the financial community this year is that new vehicle sales are slowing and used car auction prices have been slipping on average about 2 percent, meaning losses on many off-lease vehicles supported by an automaker’s captive finance company or banks. That could increase to 3 percent in the second half of the year, according to Kelley Blue Book.
“This is something that we don’t think is sustainable,” he said. “The financial institutions, the captives stand to lose more on every unit they lease. It is a lot of risk that they are managing” because the auction price for many of these off-lease vehicles is less than the residual value predicted when the lease was signed two or three years earlier. Some automakers now are dialing back a bit on their lease deals.
Fleming believes most automakers are struggling with the same problem.
While leasing is gaining in popularity as a way to get into a new car with a manageable monthly payment, smart shoppers might also begin to look at the back end of these deals as a way to ultimately own that car or profit from its value if they choose wisely.