Cars cost money.
Usually . . . a lot of money.
And not everyone has, well, that money . . .
Which is why car finance was invented (thanks, whoever you were).
It lets you pay for a car without, well, paying for it. At least not in one go.
Even better: car finance comes in various shapes and forms. We'll be talking you through each one and how they compare.
How Does Car Finance Work?
Know that Audi you like which costs £28,000?
In a car finance agreement, you 'borrow' that money from a lender and pay it back in fixed monthly instalments. Usually over the course of about 1 to 4 years (you get to choose).
So in a way, you are paying for the car with car finance. You're just doing it over a long period of time.
What are the Different Types of Car Finance?
Fantastic, so why do we need more than one form of car finance?
Well, it's usually to do with what happens to the car at the end of the agreement.
Some types of car finance give you the option to eventually own the car and hold onto it.
Some don't.
PCP (Personal Contract Purchase)
The one we all know about.
So much so that we might say we want to PCP a car when we're really just talking about car finance in general, which isn't fair on the other types.
In a Personal Contract Purchase deal, you generally pay a deposit (say around 10% on average), followed by fixed monthly payments over a course of 1-5 years.
Rather than covering the total value of the car, these payments cover the amount of value that the car is expected to lose over the course of your contract. So at the start of your contract, the finance company will formulate a Guaranteed Minimum Future Value (GMFV) figure as the baseline for that. This arrangement often allows for lower monthly payments compared to Hire Purchase agreements (which actually cover the full value of the car, as we'll see in a bit).
Then comes the optional 'balloon payment', where at the end of the agreement you can choose to pay a lump sum and own the car forever. Or until you get sick of it or something . . .
Personal Contract Purchase isn't necessarily the 'best' of all car finance options, but you could say it's the most flexible. You can:
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Hand the vehicle back and walk away into the sunset.
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Trade it in for another PCP vehicle (you'll make some savings that way).
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Make the final balloon payment, and Bob's your uncle – you now own the car outright.
Like with the other types of car finance, end of contract fees could apply, like if you've gone over the agreed mileage (in which case you'll be charged pence per mile), or if you've damaged the car beyond fair wear and tear guidelines. For example, by leaving a great big dent on the car (you aren't that clumsy, are you . . ?).
Hire Purchase
The lesser-known sibling of PCP.
And no, not an ugly or a better-looking sibling, one that's pretty similar-looking. With some teenyyyy tiny differences.
Like with PCP, you might make a deposit (maybe around 5-20% of the car's price) on a new or a used car, then followed by regular monthly payments. And same as with Personal Contract Purchase, the car is owned by the Hire Purchase company. You're just the car's registered keeper, a bit like a babysitter.
The difference is that it's Hire Purchase – in other words, you're expected to purchase the car at the end of the monthly payments. There's no final balloon payment. So once the monthly payments on the Hire Purchase agreement are done, you own the car and that's that.
Another key difference: with Hire Purchase, you're paying back the total value of the car, whereas with PCP you're only paying back the amount that the car is expected to depreciate in value.
Car Leasing/Personal Contract Hire (PCH)
If PCP and Hire Purchase are siblings, then car leasing is their long-lost cousin.
Yes, you can make an optional deposit. Yes, you pay fixed monthly payments.
The difference is that with leasing, you can never own the car at the end (except for some rare occasions).
Yep, no balloon payment built into lease deals to let you hold onto the precious vehicle. Lease vehicles are designed to be entered and handed back. Similar to leasing a house, it's like renting a car for the long-term.
Oh, and you normally can't lease a used car, although used lease cars are slowly making their way into the market. So look out for those in future.
Like with Hire Purchase, car lease payments cover the car's depreciation – in other words, the difference between what the car's worth when you first take it out and what it's expected to be worth in 1 or 2 years' time (or however long your contract is). One good thing about lease payments is that they don't come with interest in the usual sense.
Similar to the other forms of car finance, you're responsible for paying for any damage that goes beyond fair wear and tear at the end of the agreement. What counts as 'excess damage' though is largely up to the leasing company, though there are some general fair wear and tear guidelines offered by the BVRLA.
Personal Loan
A bit old-fashioned, but yes, taking out a bank loan is still a pretty popular way to finance a car.
Unlike with any of the above, you'll own the car right from the get-go, but the risks of not making the monthly payments are obviously greater.
We're not talking about debt collectors knocking on your door or something out The Godfather, but you can't exactly cancel a bank loan.
You CAN cancel a PCP or a lease agreement (with some caveats, mind).
And of course, the interest that's added on with a loan can be a bit steeper. The exact amount varies from lender to lender and usually depends on the duration of the loan, as well as your credit score and personal circumstances.
One advantage of a personal loan is that it's often 'unsecured', which means that the lender can't take your house off you or something if you fail to make the payments. That would be playing a very risky game.
You should only really go for a personal loan if you've got a killer credit score.
What Do I Need to Get Car Finance?
Nothing too fancy, just a few important documents.
As long as you're not James Bond on a forged passport, you'll be alright.
You need:
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Proof of address (e.g. council tax, utility bill, etc.)
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Valid form of ID (driving license, passport).
Certain picky lenders might also want to see proof of income. A few months' payslips should do the trick.
Can I Get Car Finance With Bad Credit?
Yes. You don't always need good credit in order to lease a car.
Of course it helps and can lower the amount of interest you pay, but it's still perfectly possible to get a car lease with a CCJ/bad credit.
If you're credit score looks like a train wreck, the leasing company might require a bit more from you, like providing a guarantor.
Can I Get Car Finance as a Young Driver?
Yep.
As long as you're over 18, you can sign your name on the dotted line of that car finance agreement. only need to be 18 years old to legally sign a car finance agreement.
Despite that, not every young driver is going to have a stable form of income or any credit history (which can be worse than having bad credit history). And not every young person is going to have a lump sum of money to use as a deposit (which OK, you don't always need, but still).
Which Finance is Right for You?
It's a bit like a game of rock, paper, scissors. One form of finance can be good at delivering one thing, but not so much with others.
So, the type of finance that's right for you can depend on a number of things:
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How much can you afford to repay each month?
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Are you bothered about driving a new or a used car?
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How much are you willing to pay in interest?
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Do you care about owning the car in future?
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Are you willing to pay further costs down the line e.g. wear and tear, excess mileage
Who is the Legal Owner of a Car on Finance?
The finance company, not you.
That is, at least until you settle the finance or make the final balloon payment (as in the case of PCP).
Instead, you're what's called the 'registered keeper' of the financed car. You're the person who is permitted to use and 'keep' it on a daily basis.
Can I End My Car Finance Agreement Early?
Finance companies don't like it, but yes, you usually can.
In a Hire Purchase agreement, you can terminate the contract early (Voluntary Termination) once you reach the halfway point of your agreement. Or if you're not halfway yet, you'd have to pay off the amount that it would take you to get there.
PCP is the same, except that it takes the balloon payment into account, so the financial halfway point might actually be reached two-thirds of the way through the agreement.
It's also possible to end a car lease early. Most companies will charge you an early termination fee equalling 50% of the remaining monthly payments, so the further you are into your agreement, the better.
Car Finance Deals: Top Tips
There's always some golden nugget secrets to be had.
Chase the deal, not the car: You're better off knowing that you want a car in the SUV class than, say, one specific SUV. There's more chance of a great SUV deal popping up than a great Volkswagen Tiguan deal.
Set price alerts: Because the market's always fluctuating, that means prices are constantly moving up and down, which can be a good (and bad) thing for you. So . . . set a price alert on your favourite car or cars and instantly receive notifications about it dropping in price.
Shop around: Don't just compare different finance types on your dream car, make sure to compare deals from different funders as well. Look at the APR (Annual Percentage Rate) interest rates and the total cost of borrowing associated with each deal.
Manage your credit score: In the same way that your reputation goes before you in social life, your credit score goes before you in the finance world. It's the main thing lenders have to judge you on, so take care of it!
Stay within budget: Our final tip is to obviously not stretch your budget too far. Remember, on top of the monthly payments, you'll also have insurance and things to worry about. So don't get too ambitious.
Summary
CCongratulations, you've passed Car Finance 101.
That's car finance explained in a nutshell. There's car finance options out there to fit most people's finances, though PCP, Hire Purchase and leasing are the big hitters in terms of car finance options and the ones worth knowing about.
FAQs
How does finance work on a car?
Finance on a car works when a lender 'loans' you the money for a car (usually with interest added on top), which you then pay back over a fixed period of time, with or without a deposit.
What are the different types of car finance?
The main types of car finance deal are Hire Purchase (HP), Personal Contract Purchase (PCP) and Car Leasing (Personal Contract Hire), though there are several more niche options out there.
Who pays for repairs on finance cars?
Unless the damage is caused by another driver or it's a mechanical fault that's covered by the warranty, it's you who is responsible for any cost of repairs on the car.