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Capitalized Cost

Definition

The car leasing term that refers to the total amount of money to be financed over the term of the lease is capitalized cost.  It's also an accounting term that describes the valuation used when calculating the depreciation on an asset.

Calculation

When used in the context of an automobile lease, the following formula applies:

Net Capitalized Costs = Capitalized Costs - Capitalized Cost Reduction

Explanation

In financial statements, the capitalized cost appears on the balance sheet as an asset.  The depreciation of that asset flows to the income statement as a non-cash expense.

With a car lease, the capitalized costs include the negotiated price of the car plus any fees or taxes that will be financed.  Capitalized cost reduction payments serve to reduce the monthly lease expenses by lowering the net capitalized costs as demonstrated by the above calculation.

The difference between net capitalized cost and the residual value of the automobile is used to calculate the monthly lease payments.

Example

The leasing company first calculates all of the costs of the car:  the price of the car, licensing and lease initiation fees, taxes and interest.  This is the capitalized cost.  To make the monthly payments more affordable, the leaseholder may ask for a capitalized cost reduction payment.  This is money upfront, such as a down payment.  The payment is used to lower the capital, or money, the leasing company is lending the leaseholder.

Since the car has residual, or terminal, value at the end of the lease, the monthly payments need to cover the net capitalized costs minus the residual value.

Related Terms

capitalized cost reduction, residual value, closed end lease, open end lease

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