Residual Value, Understand Car Lease Residual Values

Residual value ("residuals"), in car leasing, refers to the estimated — repeat, estimated — value of a leased vehicle at the end of the scheduled lease period. The longer the lease, the lower the residual value, as compared to the original MSRP sticker price.

Residual values play a key part in the calculation of lease monthly payments since leases are based on the difference between residual value and negotiated selling price. The higher the residual, the lower the lease cost for a given selling price. See Why Lease-End Residual Values are Important.

What are residuals?
Car lease residuals are a statement of the expected depreciation of a vehicle's value over the life of a lease. The value can be affected by a number of factors, including expected average annual mileage, number of months in the lease, make/model vehicle, resale history, predicted future supply and demand, rise/fall in gas prices, and anticipated future economic conditions. In short, lease residuals amount to nothing more than an educated guess.

Who sets car lease residual values?
Residual value estimates can be different, depending on who is doing the estimating. One dealer who uses a particular lease company may offer a significantly different residual value than another dealer who uses a different company, for exactly the same vehicle and same lease. It is often misunderstood by consumers that residuals are constant for a particular vehicle make and model.

There are industry sources (ALG, Blackbook, and others) for automobile residual values that many lease companies use as a basis for setting their own values. A lease company may adjust those values up or down, depending on how competitive they want to be, and how much risk (of estimating too high) they want to take.

Finance companies owned by leading car manufacturers, such as Ford Motor Credit and GMAC, are the most aggressive in setting residuals. Manufacturers usually set their own residuals and frequently promote limited-time lease deals that offer higher-than-normal residuals — and lower-than-normal monthly payments.

Manufacturers' residual values are nearly always higher than industry residuals because they can afford to lose money on the back end of the lease to get the business on the front end.

How are car lease residuals set?
Auto lease residuals are always — always — set as a percentage of MSRP — never on negotiated price. This is a point that is frequently misunderstood by leasing consumers. For example, a vehicle with a MSRP sticker price of $30,000 and a 50% residual percentage would have an estimated $15,000 residual value at lease-end — regardless of negotiated lease price.

Over the last few years, many car manufacturers and banks have lost substantial money due to over-inflated lease residual values. Of course, leasing consumers were the happy beneficiaries.

Although residuals have become somewhat more moderate, values are still high due to the competitive nature of the automobile sales industry. It is in the best interest of car manufacturers to keep residual values artificially high to keep payments attractively low.

How do you know your residual value?
Many car lease consumers are often frustrated in their pre-lease planning by not being able to predict exactly what residual value they might be offered by a dealer. In this sense, lease residuals are much like interest rates on car loans. Although we can determine what the national or regional average interest rate might be (Bankrate.com), we can't predict exactly what interest rate a particular consumer will be offered on a particular day, by a particular dealer, who uses a particular finance company. Same for car residual values.

The only way to know exactly what your residual value will be for a specific car lease — is to ask the dealer. Unless you have knowledge of the values from the bank or finance companies used by your dealer, the dealer is the only other source. Sometimes car manufacturers advertise promotional lease deals on TV or in newspapers, in which they disclose the residual value for those deals. These residuals are usually "subvented" or boosted above the company's normal residuals for those vehicles.

Finding car lease residual values
The LeaseGuide.com Lease Kit provides average estimated residual values and percentages in its Residual Value Calculator for all vehicle makes and models, based on three major vehicle classifications, and for all common lease terms. Certain classes of vehicle, such as Ford Focus, have characteristically low future resale values and, therefore, low average residuals — and are not the best lease vehicles. In the highest class, vehicles such as Honda Accord and most Lexus models have consistently high future resale values and high residuals.

Is your residual a good deal?
Although no one can predict the residual value you'll get from a particular dealer on a particular day, the Lease Kit average values will allow you to do your lease planning and lease deal evaluation with a good degree of accuracy. You simply compare your residual with the average value, much as you would compare your interest rate with an average rate.

Even when you get a residual value quote from a dealer or newspaper ad, it's difficult to know if it's fair unless you have an average value to compare with. If your dealer gives you a 49% residual on a new Ford Focus 36-month lease with 15,000 miles per year limit, is this a good deal or not? Is it average? Is it high? Is it low? This is where the Lease Kit can help.

Footnote
For a very detailed academic understanding of Residual Values, see the article, "Manufacturer Advantages in Residual Value Estimation." This is not light reading, but is very enlightening if you can stick with it. It certainly ilustrates the complexity and uncertainty of predicting car lease residual values.

For more, see LeaseGuide.com