Why do leases use Money Factor instead of Interest Rate?
I’ve Googled the question…and can’t seem to find a satisfying answer.
Two most commonly seen answers:
Interest rates need to be disclosed. MF does not. Did leases originally have Interest Rates and then Auto Companies changed to MF to screw the consumer…would not surprise me.
Leases are more complex than purchases, therefore the MF. Again, if it’s so easy to convert (multiply by 2400), then that shouldn’t be a factor. But I haven’t taken math in 40 years…so what do I know!
The mathematical answer is that mf and interest rate are not directly the same and are not being used to calculate the same value.
Rent charge (what mf is used to calculate) is a consistent value across the life of the lease (you pay the same amount of rent charge on payment 1 as you do on payment 36) and is based on the average adjusted lease value.
Multiplying mf by 2400 gives an equivalent interrst rate used for calculation, but it does not give an equivalent interest rate that generates an identical total interest paid. As an example, if we had a lease at .001 mf for 36 months or a 36 month loan at 2.4% apr, significantly more would be paid over 36 months in net rent charge than in net interest payments.
Tacking in to what @mllcb42 stated, a far added benefit for dealers & mfr’s is that mf is one more layer to confuse the average consumer and one more reason that said avg consumer gets frustrated, worn down, & eventually says I’ll take the deal, where do I sign.
Typically auto loans have simple interest. Is the principal and interest portion not the same every month for the life of loan, unlike those on home mortgage for example? If yes, is that not the same thing as cap cost and rent change being same every month over the life of lease term?
Also, is it not that, let’s say, a 5% interest loan has less total interest paid vs. MF equating to 5% on a lease has higher total interest (rent charge) because with lease, the interest is charged on Cap Cost + Residual vs with finance interest is only charged on “cap cost”?
Again, these are my thoughts based on my limited knowledge and would like to improve if any of assumptions are wrong.
It is not (in most loans). One pays more interest and less depreciation initially.
With rent charge, “interest” is not charged on the sum of the adjusted cap cost and the rv. It is charged on the average of the adjusted cap cost and the rv.
As a gross over simplification and only an approximation, if you had two identical terms, a lease would basically pay interest on the average between the adjusted cap cost and the rv and a loan would pay interest on the average between the adjusted cap cost and $0.
I’m going to answer this is in ‘Forbs’ talk which will mean it’s wrong and everyone will jump on me.
The MF is disclosed, it’s in the RENT charge line. Of course, you have to back calc all the other lines to get it out, but it’s there.
When you multiply by 2400 you aren’t getting the true interest but something ‘pretty darn close’.
Why use MF? It’s dang easy for a dealer to get the rent charge. It’s ([SELLING PRICE]+[Residual Value])*MF. Pretty Simple right? No need for special calculators. So when you think about it, it’s AVG Price * MF * 2.
So you say MF * 2400 = APR. So the price above is an avg, so it’s MF * 1200 = APR (on the Average Price). Then you realize that APR is Expressed in Percentages so you multiply by a hundred to MF * 12 = APR (Average Price / 100)
Doesn’t that 12 look neat? It’s 12 months! So you are paying a set interest over a year!
TL;DR : Take the Selling Price (Before Rebates and such) and the RV and multiply that by MF. Poof you have rent charge! Why make it more complicated than that?
This is what I asked in a similar thread and someone said that auto loans are are not like mortgages where you pay more interest in the beginning (I rarely finance cars… the last one I did was 0% interest). But when I did more research, turns out auto loans are compounded interest so you do pay less principal and more interest at the beginning.
This is why sometimes a lease has a more favorable “buyout” vs “principal” if you decide to term early over a finance.
Whenever I see MF I think something else, especially when dealing with Sales or Finance at a dealership.
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