Ending Your Car Lease Is Tricky, But Can Still Pay Off That car you leased three years ago probably has become a cash cow. But deciding what to do with that equity — and what to drive next — has become…

That car you leased three years ago probably has become a cash cow. But deciding what to do with that equity — and what to drive next — has become confusing.

Before the car market was turned upside down by the pandemic, microchip shortages and supply chain disruptions, most people simply turned in their leased cars. But now that most leased vehicles are worth thousands of dollars more than the predetermined price in the lease contract, a savvy consumer might want to leverage that bonus.

And that's where things get tricky.

"Getting the equity out at the end of the lease is more difficult than just turning it back in," says Scot Hall, executive vice president of operations for Swapalease, which matches leaseholders with car shoppers looking to take over a lease.

There's a new wrinkle

"Captive" automotive lenders, the financing arms of manufacturers that usually handle leases, want those primo leased cars — usually well-maintained with low miles — returned to their own dealers to be sold as certified pre-owned cars, says Hall.

To encourage this, many lenders won't honor the residual value in the contract for anyone but the owner. That means someone wanting to sell their car online to Carvana or CarMax or use it as a trade-in for another make of vehicle has to jump through several hoops — and then shop for a ride to replace the old one.

That's tough, too. Dealer lots are often almost empty, prices on all vehicles have soared, and incentives such as cut-rate financing — the kind that made leasing attractive in the first place — have vanished.

"Consumers are finding themselves in a perplexing situation," says Ivan Drury, senior manager of insights for Edmunds.com, an online resource for automotive inventory and dealer reviews. He notes that the popularity of leasing has taken a hit, dropping from 29% of all transactions in February 2021 to only 21% in February 2022.

So what does this mean for you? Well, you will need to proceed carefully if you want to capture the equity built up in your leased car.

How much equity do you have?

First, find your buyout price by logging in to your online account or calling your lender, or use a lease buyout calculator to estimate. It's typically your residual value plus remaining payments.

Then you'll need to find the current market value of your car. You can estimate using many online pricing guides such as Edmunds.com or Kelley Blue Book. Hall recommends looking for the trade-in price since this is the amount most dealers will give you. Or, you can get cash offers to sell your car online.

Then, subtract the buyout price from the current trade-in value or offer and, presto, this is your equity.

Edmunds.com estimates equity runs about $7,000, on average, for leased 2019 model year vehicles.

What are your options?

"Decide what you want to do next and then work backward," advises Hall.

Here are your options as you approach the end of your lease:

1. Turn the car back in to the leasing company for another vehicle from the same manufacturer.
2. Turn your car in to the leasing company and then lease or buy a different brand of vehicle.
3. Turn in your leased car, pay the fees and walk away.
4. Extend your lease on a month-to-month basis.
5. Buy your car and keep driving it.
6. Buy your car and sell it privately or to a dealer.

One key factor in your decision may be sales taxes. If you buy your car — even if you plan to immediately resell — you will owe applicable sales taxes to your city, county and state. And when you trade your car, many states will tax you only on the difference between its value and the new car's value.

Those factors may dent or eat away at your equity. A dealer's offer for your car may be lower than you might get elsewhere, but taxes may make it the wisest choice financially.

All of these options have benefits, but the first two can be a little more complex.

Turn your car in for another of the same brand

Ending your current lease and then leasing or buying the same brand of vehicle can help you in several ways:

• Trading the vehicle rather than simply turning it in may erase lease disposition fees and penalties for driving over the allowed miles and excess wear.
• Trading in your leased car also typically reduces the sales taxes on the new car.
• Your equity can serve as a down payment on a new or used car or cover the drive-off costs for a new lease.

Turn your car in, then buy or lease a different brand

Extracting equity is more difficult when you want a new car from a different brand.

If your current lender doesn't allow a third party to buy out the lease, you'll have to do it yourself. That means finding a lease buyout loan, paying the sales taxes and fees, then registering and titling the car in your own name. Afterward, you're free to trade or sell the car as you wish.

One possible workaround is finding a dealer group that sells both the brand you own and the brand you want, Hall suggests. One arm of the dealer group could buy out the car, and the other arm could get you into a new car. You would not have to pay sales taxes on the buyout, because the dealer would be buying the car, not you.

Should you act or sit tight?

While "equity" may sound like free money for the taking, it is not. The only way to capture all of that gain is to buy out the lease, sell the vehicle and not purchase another one.

Leveraging the equity into another car could be a wash financially.

Sure, you are getting money you didn't expect from your old ride, but increased sticker prices, sales taxes and dealer-mandated extras can absorb it easily. Many of the leasing incentives that helped lower your monthly payments are gone now, says Drury.

"Reevaluate before jumping straight into another lease," Drury advises.

If you like your current leased car, the smartest path may just be to buy it — at what is now a bargain price — and drive it as long as possible.

If you need a new car, equity from your lease can be a buffer against sticker shock.

The article Ending Your Car Lease Is Tricky, But Can Still Pay Off originally appeared on NerdWallet.