Depreciation

Definition

Depreciation is a term used to describe the decrease in value of an asset over time. Age and mileage are key factors in determining a car’s depreciation rate and can have a big impact on the Residual Value of a vehicle.

In a Car Leasing agreement, your vehicle’s depreciation is an important factor in determining the cost of your Monthly Payments.

Why is depreciation important?

When you lease a car, your monthly payments are based on the estimated cost of depreciation over the length of your contract, plus finance interest.

The cost of depreciation is the difference in value between the price of the vehicle at the beginning of your agreement and its residual value.

If your vehicle has a fast rate of deprecation, the difference in value will be greater and your monthly payments will be higher.

How to calculate depreciation

Your vehicle’s estimated depreciation is calculated by the lender at the start of your agreement based on your Term Length and Annual Mileage Limit, so it’s important you consider these factors carefully.

Opting for a higher annual mileage limit will increase the depreciation rate of your vehicle resulting in higher monthly payments.

But it’s important to be realistic about your mileage, as exceeding your mileage limit will result in an excess mileage charge (typically a few pence per mile) to cover the additional loss in value.

Your vehicle’s condition is also key to determining it’s depreciation. If you return the vehicle with damage that falls outside the lenders ‘fair wear and tear’ policy this will impact the resale value of the vehicle.

As a result, you’ll usually be charged with the cost of repairs.

Can I avoid depreciation?

In most cases, depreciation is unavoidable. Classic Cars are the only exception to the rule as once they reach a certain age they begin to appreciate.

But whilst depreciation cannot be completely avoided, you can minimise the cost of depreciation by choosing a car with a slower depreciation rate.

For example, a brand-new car loses roughly 60% of its value in the first 3 years and this loss in value will be factored into your monthly payments. However, Used Cars are much better at retaining their value, so the cost of depreciation will be less.

The other option is to opt for a Hire Purchase (HP) agreement, whereby your monthly payments cover the entire cost of the vehicle, not just the cost of depreciation.

At the end of a HP agreement, the vehicle is yours to keep or sell on. But remember, the vehicle will still depreciate throughout the agreement and will be worth less when the time comes to sell it.