Consumer Car Finance Explained
With so many new car finance deals available, from such a wide range of providers, it can be difficult to know which option to choose. In this blog we guide you through some of the key questions you need to answer, to discover what type of finance best meets your needs.
Do you have sufficient savings to buy a new car outright?
In today’s climate of very low savings interest rates, if you’re lucky enough to have the cash to buy a new car outright then this could be the cheapest option. Take a careful look at the interest rate that you are earning and compare this to the interest rate charged on any type of finance – it’s highly likely that the interest you lose from your savings will be less than you pay for car finance.
Of course, this isn’t the only consideration. Many people hold savings for security reasons or have plans for the money that don’t involve a new car, in which case using one of the many finance options available will be a better solution. But it’s worth remembering that, if you do own the car outright, you always have the opportunity to sell it if you need to raise money.
Do you want to carry the risk of the car’s future value?
If you do buy a car using your own cash, then you carry all of the risk of what the car will be worth when you come to dispose of it (the car’s residual value). The same is true if you take out a loan or use Hire Purchase (HP) to buy the car.
If you would rather let someone else worry about residual values, then there are finance options available that remove this risk. With both Personal Contract Purchase (PCP) and Personal Contract Hire (PCH), the provider of the finance carries this risk, effectively guaranteeing the car’s value at the end of the finance term.
Do you want to own the car outright at any point?
Obviously, if you buy the car with cash, either from your own savings or from a loan, then the car will belong to you from day one. Other types of finance offer different ownership propositions. With Hire Purchase, you will legally own the vehicle once the final payment has been made to the finance provider.
With PCP you have the option of taking ownership at the end of the agreement term by making a ‘balloon payment’. This size of this payment will be fixed at the outset of the agreement and will depend on a number of factors, including the value of the vehicle, it’s rate of depreciation and the size of the monthly repayments throughout the contract.
With PCH there is no contractual option to take ownership at the end of the term. The assumption is that the vehicle will be returned and you will seek another deal. Obviously, if you were keen to take permanent ownership, you may still be able to negotiate a purchase price with the finance provider.
Do you have a good credit rating and can you afford the repayments?
Generally speaking, the better your credit rating, or credit score, the better the finance deal you’ll be able to access and the more money you’ll be able to raise. You’ll also need to prove to the lender that you’re able to afford the repayments over the term of the agreement.
If at any stage of a car finance agreement you begin to struggle with repayments it is always good advice to contact the lender, as they may be able to restructure the deal to make it more affordable. If you default on the payments for any finance that is secured on the value of the car (including HP, PCP and PCH), then ultimately the provider may be able to repossess it.
How would you like to ‘shape’ your repayments?
This might sound like a strange question, but with the range of finance deals on offer today, you can pretty much define the size of your initial payment (deposit) and monthly repayments to suit your requirements. HP, PCP and PCH finance deals can all be found that offer this flexibility.
You’ll often see PCP and PCH deals quoted as, for example, a 3+23 month or 6+35 month contract. These figures refer to the size of the deposit and number of subsequent monthly payments required. So, a 3+23 month contract will require a deposit of three times the monthly payment amount, followed by 23 further monthly repayments.
If you’ve got a large deposit, you may be able to access a zero percent APR deal; these are most common on HP but are also offered on PCP from time to time. Even if there are no zero percent deals around, a larger deposit means you’re more likely to be able to access lower interest rates.
Very low, or no-deposit, deals are also available, particularly on PCP and PCH, but these usually carry a higher interest rate and higher monthly payments.
When comparing rates, remember that Representative APRs are the lowest rate that 51% of people accepted for the finance will get, you may pay more depending on your circumstances. It’s also worth noting that PCH deals do not quote an APR, as they are effectively a lease and not a loan.
Whatever ‘shape’ of finance deal on offer, it’s essential that you know how much you’ll be paying in total. This means adding up the initial deposit amount, plus all the monthly payments and any balloon payment at the end of the contract. Obviously with HP and PCP the total payable will actually mean you’ve taken ownership, whereas with PCH you’ll hand the car back.
Many finance deals also come with set-up fees, sometimes referred to as administration or documentation fees. It’s worth looking at all of the small print to find out how much this will add to the overall cost of finance.
How long do you want to run the car for?
If you’re buying the car of your dreams and intend to keep it for many years, then you’ll need to either purchase it outright or choose a method of finance that allows you to take ownership at the end of the contract. In the more likely scenario that you plan to keep the car for a number of years and then replace it with a new one, almost any of the finance options become valid.
HP deals tend to be between one and five years in length, while PCP and PCH are more likely to be between two and four years, but longer contracts are available.
How many miles are you likely to cover each year?
For finance methods where the provider takes the residual value risk (PCH and PCP), you’ll be expected to declare how many miles you’ll cover each year. This is because the total number of miles covered during the contract period will have a large impact on how much the car is worth at its conclusion. With HP or a loan, you retain the residual value risk so are free to cover as many miles as you want.
If it looks like you’ll do more miles than you originally thought, it’s worth letting the finance provider know so that they can adjust your monthly PCP or PCH payments accordingly. This will prevent you getting a large excess mileage bill at the end of the term.
Are you interested in including car tax and maintenance?
Nearly all PCP and PCH deals come with car tax included in the regular payments, this isn’t the case for cars purchased through a personal loan or most HP deals. PCP and PCH are usually sold with the option of including maintenance and tyres within the package. This means you’ll pay a little more each month but won’t have to worry about the cost of routine servicing and repairs.
It’s worth considering how much maintenance a brand-new car is likely to require during its first few years on the road and how much this is likely to cost before ticking the maintenance option box.
Is there a chance you’ll want to dispose of the car sooner than currently planned?
If you are really unsure about how long you’ll want to keep the car, then the best option is to buy it outright with savings or a personal loan. This means that you own the car from the outset, so you’ve got full rights to sell it whenever you choose.
HP, PCP and PCH are all agreements that last for a specified period of time, so ending them early will require you to meet certain contractual obligations. We’ll look at each in turn to see what options are available.
With PCH it depends on exactly what’s stated in your contract and on the attitude of the leasing company. Some will hold you to all of the outstanding monthly payments even if you hand the car back, while others will try to assess the situation and let you end the contract for a smaller payment.
In this scenario, the amount you can expect to pay to terminate early will depend on how far into the contract you are, the mileage covered and the car’s condition. The earlier in the contract you leave, the higher the amount you’re likely to have to pay. This is because the car loses value faster earlier in the contract period than later, but rentals are calculated to be flat through the whole period. If you just want to reduce your monthly PCH outgoings, the provider might suggest extending the length of the agreement, they might also be able to defer payments for a period of time.
With PCP and HP you do have a little more flexibility through ‘voluntary termination’. You are able, in law, to hand back the car to the finance company if you have already paid back 50% of the loan amount plus any interest and other fees that might apply.
If you have paid off less than 50% you will be expected to make up this shortfall before you hand back the car. Where more than 50% has already been repaid then this money will be lost if you return the car.
Will you be able to return the car in good condition?
Regularly maintaining your car and keeping it in good overall condition is just common sense. If you’ve purchased the car outright, or are on a finance deal where you take the residual value risk such as HP, then neglecting its upkeep is simply going to cost you money when it comes to disposing of it.
Under PCP and PCH deals you’ll be contractually obliged to follow the manufacturer’s servicing schedule, as following this will enhance the car’s value at the end of the term when you hand it back. You will also be expected to return the vehicle with no damage that falls outside of expected wear and tear for a vehicle of that age. The rules for this are outlined in the BVRLA’s fair wear and tear guidelines.
If the vehicle is returned with damage that’s deemed to be outside of these guidelines, then you will be charged an amount to compensate the finance provider for the cost of rectifying any damage, or for missing items such as keys or service history.
There are, of course, circumstances where vehicle damage is more likely. This could be due to where you live (e.g. high chance of vandalism or poorly maintained roads), or how the vehicle is used. If there’s a high chance of damage it could be worth considering an alternative to PCH or PCP, or budgeting for the repair work to be carried out before handing the car back.
Do your research
No two situations are the same, so there’s no car finance solution that will be the best fit for everyone. Do carry out your own research with dealerships and online and shop around for the best deals on the car you’re looking for. When you’ve found a deal, if you’re not totally sure about what you’re signing up for don’t be afraid to ask questions to get clarification.
Maxxia offers personal car finance through yourleasecar.co.uk where you’ll find deals on cars from all manufacturers plus a range of special offer vehicles. If you’d like to speak to someone about your specific requirements, call us on 01908 219398.