Buying a car can be a big financial commitment, and not everyone has the option of funding it with cash savings, nor might this be suitable for everyone’s circumstances. If this applies to you, purchasing on finance could be an option to consider.
There are many types of car finance to suit different individual financial circumstances. But before you make a car purchase, it’s essential to take time to understand your situation and read terms and conditions (Ts&Cs) carefully. This includes the host of acronyms and jargon that you may not be familiar with.
Let’s go through the different types of car finance agreements and explain what you need to know.
Hire purchase spreads the cost of a car between an initial deposit and payments made in instalments, which are subject to interest.
You won’t own the car immediately – it is only owned outright once all the regular payments and fees are paid at the end of the term. This is typically arranged by a car dealer, but car brokers also offer this service.
A hire purchase typically has flexible terms, and the interest rate tends to be fixed. It also requires a relatively low deposit upfront.
But with a hire purchase agreement, your debt is secured against the car – so if you stop making your payments, the company may take the car to recover the money you owe.
It’s also important to note you must seek the lender’s permission if you decide to sell your vehicle. And if you decide to end a hire purchase agreement early, you may have to pay a penalty fee.
Personal contract purchase (PCP)
A personal contract purchase (PCP) is similar to a hire purchase in that you pay an initial deposit with monthly payments over a fixed period (usually 24 or 36 months).
However, rather than just paying small monthly instalments, a large portion of the amount you borrowed will still be left to pay at the end of the loan. This is often referred to as a ‘balloon payment’.
With a PCP, you have the option to buy the car at the end of your fixed period. You can also sell it to pay off the remaining balance, or return it to the dealer.
It’s important to remember to keep the car in good condition and within the agreed mileage, as until you own it, you may be subject to penalties that can become expensive if repeated.
A personal loan is another way of borrowing money to help purchase a car. Our latest research showed that of those considering purchasing a vehicle in the next six months, one in seven will opt to use a personal loan to fund it.
This option will allow you to own the car outright and pay the money back in monthly instalments.
There can be more flexibility as you may have a longer period to repay the loan as with most lenders, they usually offer terms of between one and seven years (depending on the amount you are borrowing).
However, not everyone is able to get a loan. Reputable providers grant loans based on creditworthiness (how you’ve managed credit in the past), affordability (based on your income and current expenditures) and internal policy rules (a set of criteria a borrower must meet).
For a personal loan, you’ll be asked to pay an annual percentage rate (APR). The APR includes the interest rate (the amount you’re charged for borrowing the money – a percentage of the total amount) and other additional fees and charges involved in taking out the loan.
The Representative APR is an indicative rate used in advertising, however this is a rate that at least 51% of applicants will receive and therefore not everyone will be offered the loan with the rate advertised.
That’s why it’s so important to read all the T&Cs before applying for a personal loan to make sure the APR and payment terms are right for you.
Shawbrook Bank is transparent with everyone who applies for a loan. We’ll give you a quote for your guaranteed personalised rate right from the start, with no impact on your credit score. This means you’ll have a clear idea of how much the loan will cost you before you decide to apply.
Before committing to anything, it’s important to understand the conditions for each payment option listed above. There are plenty of online tools to help you determine the best option for your circumstances and you can find out more about getting a car loan here with our handy guide.
Leasing a car is effectively long-term rental – you pay a fixed monthly fee to use the car for an agreed time period and number of miles.
As with a hire purchase agreement, you’ll need to put down an initial deposit, but the monthly instalments are typically much lower.
The leasing cost each month will be determined by the type of car, the mileage and the length of the leasing period. However, unlike hire purchase agreements, you won’t have the option to own the car outright at the end of the payment terms.
A key benefit of personal leasing is that it provides flexibility – making it easy to change the car as and when needed.
If you decide to choose this option, make sure you agree the mileage in your contract before you sign, as if you go over the limit, you could be subject to extra costs each month. And if you decide to end the contract, you may be liable for damages and an early termination fee.
A ‘0%’ finance deal means you can spread the cost of a car purchase over a longer period of time without having to pay interest on what you owe.
These types of deals are common, and one that many people opt for when buying a car. These are usually used as a promotional tool against either new to market models or models that are being phased out.
As 0% finance deals have no interest, they tend to require a larger deposit, meaning a greater proportion of upfront costs.
To avoid losing the 0% interest term, you’ll need to make sure the monthly payments are always met on time – otherwise it may be switched to a scheme where interest rates apply.
Whatever route you go down, it’s wise to base your decision on your current and expected future circumstances particularly when it comes to things like budget, income, and current outgoings. To find out more about car finance, read the ultimate guide on financing a used car.
Sally Conway is head of consumer communications at Shawbrook Bank Personal Loans