Car Finance Explained

Understanding
Car Finance

The subject of car finance can often appear daunting and disconcerting. In reality, it’s actually a surprisingly easy concept.

Borrowing money to buy a car means carefully considering the advantages and affordability of the various options available. All of which can be made considerably easier with the help of an independent broker.

Of the various approaches to financing a car in the United Kingdom, the following are the most popular car finance options available:

Personal loan

By a considerable margin, personal loans are the most popular vehicle financing products in the UK. Personal loans involve entering into an unsecured agreement with a bank or lender, borrowing the funds required on the basis of your credit history and financial status. All personal loans attach an annual percentage rate (APR), which will affect the overall cost of the loan. The lower the APR and the shorter the loan term, the more affordable the transaction in general.

Defaulting on a personal loan will not put your assets as risk, as no collateral is required. However, you may be liable for heavy penalties and levies in the event of late or non-payment. It can also be tricky to qualify for a personal loan with poor credit.

Personal contract
purchase (PCP)

Personal contract purchase is similar to hire purchase, in that a deposit is payable at the beginning of the term, followed by a set period of monthly repayments. The difference being that after the loan period – usually 12 to 36 months – the borrower has three options to choose from. They can keep the car, trade it in against a replacement or return it to the seller.

Returning the car brings the contract to a close at no extra cost. Keeping the car means paying what’s known as a ‘balloon’ payment to secure ownership of the vehicle. Trading the car in against a different car means having the guaranteed future value (GFV) of the vehicle (established at the beginning of the loan term) discounted from the value of the replacement.

Hire purchase

One of the simplest types of car finance, hire purchase is the classic deposit-and-instalments scheme. In a typical working example, the borrower is expected to provide a deposit of 10%, after which they pay for their vehicle by way of monthly instalments. The rate of interest and all associated borrowing costs are agreed before the hire purchase contract is signed.

However, it’s important to note that the borrower does not become the legal owner of the car until the loan has been repaid in full. This means that until the loan has been repaid, the borrower doesn’t have the right to sell the vehicle. They may also be restricted from modifying the vehicle in the meantime.

In the event of non-payment, the service provider retains ownership of the vehicle and all payments made on the part of the borrower up until that point. Hire purchase is often accessible with an imperfect credit history.

Personal contract hire
(PCH)

Personal contract hire – aka personal leasing – is exactly as the name suggests. The car never becomes the property of the borrower, who instead ‘hires’ the vehicle for an agreed period – usually 2 to 3 years.

Initial deposit and monthly repayments can be comparatively low, given that the client is simply hiring a vehicle to be returned at a later date. As with all car hire agreements, annual maximum mileage allowances are typically imposed and the vehicle must be returned in good condition.

Dealer finance

Last but not least, many dealers offer their own in-house financing services for new and used car buyers. Options which may include one or more of the above, or something completely different. In any case, if you’re interested in a deal or finance option, the importance of carefully considering all available options cannot be overstated.

For obvious reasons, organising car finance with a dealer can simplify of the whole thing. Everything takes place under one roof, with no third-party involvement. Nevertheless, it isn’t uncommon for dealers to blindside borrowers with seemingly generous deals, which are actually nowhere near as competitive as they seem.

Before signing any dealer finance contract, check what’s available elsewhere. Better yet, speak to an independent broker for objective advice and support on the various vehicle finance options available.