How Are Lease Payments Calculated?

When you lease a car, your monthly payments depend on a variety of factors, including the following: 

• Vehicle selling price, also known as the “capitalized cost”
• Lease term
• Money factor
• Residual value
• Capitalized cost reductions
• Mileage limits 
• Taxes
• Documentation fees  

Some of these values are fixed and non-negotiable, like the residual value of the leased car and the taxes the dealership must charge by state and local laws. Others, such as the money factor, mileage limits, and lease terms, are negotiable. Capitalized cost reductions, such as down payments, trade-ins, or rebates, can also lower your monthly payment. 

One of the most direct ways to lower your monthly payments is to have a high credit score. Your credit score influences the lease money factor and determines how much you pay in interest over the lease term. Even increasing your credit score by a few points can help you pay less for your lease. 

Finding a better lease deal requires knowing the lingo. Here are some of the most common lease terms you’ll come across: 

• Capitalized cost: This value represents the vehicle’s selling price. The net capitalized costs include the selling price and any other fees associated with the lease. 
• Capitalized cost reduction: Rebates, trade-in values, and down payments qualify as capitalized cost reductions that reduce how much the dealership finances as part of your lease agreement. 
• Down payment: Dealerships and leasing companies often advertise $0 down leases. While these leases don’t require additional funds to lower your monthly payment, you still owe money when you sign the lease. Fees “due at signing” do not always include a down payment. 
• Lease term: Written as a total of months, the lease term is how long you will lease the car. The average lease term is anywhere from 36 to 60 months. 
• Money factor: Expressed as a decimal, the money factor determines how much interest you pay over the lease term. You can multiply the money factor by 2,400 to convert it to an interest rate. 
• MSRP: The Manufacturer’s Suggested Retail Price (MSRP) represents the vehicle's sticker price. This value does not define how much the dealership paid for the car and is not equivalent to the capitalized cost or vehicle selling price. 
• Residual value: This non-negotiable lease factor quantifies how much the dealership estimates the car will be worth upon lease termination. The higher the residual value, the lower the depreciation.

Understanding the terms involved in a lease can help you get a better car leasing deal. Once you know what these terms mean and how they affect your monthly lease payment, you can negotiate to suit your budget. 

Calculating your monthly lease payments involves breaking down the final charge into components. Your monthly lease payment is comprised of the following charges: 

• Depreciation fee: This fee is the principal amount of the lease, paid in monthly installments. You can calculate this fee by finding the difference between the net capitalized cost and residual value and dividing that over the lease term. 
• Finance fee: Dealerships use this number to determine how much interest you’ll pay over the life of the lease. The finance fee is the sum of the net capitalized cost and residual value multiplied by the money factor. 
• Sales tax: State and local authorities determine the tax rates in your area. Dealers must use that rate in calculating the sales tax you must pay on the sum of the depreciation and finance fees.

Your total monthly payment is the sum of the depreciation fee, finance fee, and sales tax. Below are the formulas for each component that determines the lease monthly payment: 

Depreciation fee = (Net capitalized cost – residual value) / Lease term 

Finance fee = (Net capitalized cost + Residual value) x Money factor

Sales tax = (Depreciation fee + Finance fee) x Tax rate

Lease hackers often use this formula before approaching a leasing company or dealership. If you can identify elements that will lower your monthly payment, you can set a goal to work toward in negotiations. Even if you can’t negotiate to your desired value for one lease component, tackling several can potentially have the same result. 

As complicated as it may seem, determining these values requires gathering some numbers and plugging them in. Working through a few examples can help you identify how each factor plays a role. You can also identify potential areas for negotiation to lease a car for less.

Imagine that you see an advertisement for an Audi lease with the following terms: 

• Net capitalized cost of $40,000
• Residual value of $32,000 
• 36-month lease term
• Tax rate of 6.5%
• Money factor of 0.0035

Plug those numbers into the equations above, and you’ll get the following: 

($40,000 – $32,000) / 36 months = $222.22 depreciation fee

($40,000+ $32,000) x 0.0035 = $252 finance fee

($222.22 + $252) x 6.5% = $30.82 in sales tax 

With this calculation, your monthly payment would be $222.22 + $252 + $30.82, or $505.04. 

What if the residual value were to go up, and you improved your credit score to increase your money factor? Consider the following: 

• Net capitalized cost of $40,000
• Residual value of $36,000 
• 36-month lease term
• Tax rate of 6.5%
• Money factor of 0.0030

Rerun the calculation, and you get the following: 

($40,000 – $36,000) / 36 months = $111.11 depreciation fee

($40,000+ $36,000) x 0.0030 = $228 finance fee

($111.11 + $228) x 6.5% = $22.04 in sales tax

Your monthly payment is now $361.15. That’s a difference of $143.89 just by reducing the residual value and money factor.  

Try a few more lease monthly payment calculations, and you won’t have to ask anyone how much it costs to lease a car. Instead, you’ll walk into negotiations with confidence. 

You can combine the three formulas above to calculate the depreciation fee, finance fee, and sales tax, but the formula isn’t necessarily simpler. Instead, it’s much longer: 

[(Net capitalized cost – residual value) / Lease term] 

+ [(Net capitalized cost + Residual value) x Money factor] 

+ [(Depreciation fee + Finance fee) x Tax rate]

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Monthly lease payment

You can also use online lease calculators to simply plug in numbers as prompted and receive a monthly payment estimate. Depending on how you negotiate and who you’re negotiating with, printing out your lease estimate and asking to work toward those numbers can help start a conversation. 

Learning how to lease a car online requires understanding the relationship between the vehicle’s depreciation and your monthly lease payments. As discussed above, depreciation expresses the difference between the capitalized cost of the car and the residual value. This number is the dealer’s way of quantifying the car's worth once your lease terminates. 

Cars that hold their value have a higher residual value, thus decreasing the depreciation and your monthly payments. However, cars typically depreciate the most within the first few years of ownership, so longer lease terms can help spread those costs over time. Depreciation costs are often one of the many reasons why 3-year leases are so popular.