What is car finance?

Car finance is essentially a loan, in which you can pay for a vehicle on a monthly payment plan and take the vehicle home without pay much or nothing upfront. On this page I am going to explain how car finance works, what type of finance works best for you and the most important bit, how to save you money.

 

Types of finance

There are three types of car finance, which I am going to explain what they are and what would suit you best.

Personal Contract Plan aka PCP

A PCP has to be probably, the most popular method to finance a new, or second-hand car, up to 4 years old.

So, you work out, what deposit you want to put down, the more you put down the less your monthly payments will be. Then you work out how long you want to agreement to be, usually the max term is 4 to 5 years. The longer the term, the lower your monthly payments will be. Then you will have to honestly sate your annual millage, so the average is 10K miles a year, the less miles you do a year, the less your payments will be.

When you reach the end of the term, so let say 4 years and 40K miles later, you will have a balloon payment (sadly it has nothing to do with balloons).

 

The balloon payment is the guaranteed trade value of your vehicle at the end of the term, as long as it’s in fair condition. You have the option to pay it off in one payment, or hand the keys back and walk away.

What a lot of people do, is pay it off then keep the car, or sell it for more money than the balloon payment, which 9 out of 10 times it will retail more than the balloon payment.

With a PCP there are some restrictions you need to know about.

Mileage, if you sign an agreement stating that you do 10K miles a year, when you actually do 15K a year. You will be charged a millage excess charge, which can range from £0.01 per mile to £0.50 per mile, so it is best to be honest and state your true millage. You will only be charged this if you hand the car back, if you pay off the balloon and keep the car you won’t be charged.

Overpayments, so let’s say you came into some money and you wanted to make an over payment you may be fined, or you may not be allowed. Most PCP contracts allow you to make over payments, without a fine, but it is important to check before you sign.

Paying off early, with the FCA aka the Finical Conduct Agency, they regulate every lender in the UK, you are within your rights, to pay the whole thing off at any time. The only charge you can incur, is for the interest of the finance for that month and possibly a admin fee, each lender varies. If you call the lender, they will tell you exactly what the costs will be to pay it off early.

Deposit Contributions

I will go in this briefly for a comprehensive guide please visit the deposit contributions page. A deposit contribution is an incentive by the manufacture to entice you into buying a new car, or used car from them, on a PCP. They can vary from £100 to £20,000, (the higher ones are on new cars made by Lamborghini, Ferrari, etc) and they can change every month. So, if you take the car out on a PCP they, will put a contribution to your deposit, but not money off the price.

Here is the trick the dealer won’t tell you. You can pay off the finance strait away without a fine.

So here is an example of an offer I saw on a used Ford Smax last week. Ford will put £1,500 towards my deposit on a PCP, but they won’t knock £1,500 off the price. So, the clever thing to do is, take it on a PCP, then pay it off strait away, congratulations you have just saved £1,500 and thanks to the FCA you are allowed to do this, these are your consumer rights. They can’t fine you for this, they can only charge you the interest for the time you had it on finance, which is almost nothing.

I have friend that done this on a used VW Passat, with a huge £2,000 deposit contribution. He paid it off the next day and he was only charged £3.00, so he saved £1997 by doing this. Thank you FCA.

Hire Purchase AKA HP

With HP there are less incentives than a PCP. How they differ, is that they are almost identical apart from the fact, there is no balloon at the end, so when you reach the end of your term you have payed your vehicle off in full.

The downside to not having a balloon at the end is, your monthly payments will be higher than a PCP, as your paying the full amount off, when you reach the end of your term.

HP is used when the vehicle is too old to be on a PCP, so when the vehicle is over 4 to 5 years old, this is the only way to finance the vehicle. You can also use HP on newer vehicles, but it doesn’t make any viable sense to do so, as you don’t get a deposit contribution.

One plus side is that there are no millage restrictions, or excess millage charges due, to not having the option to hand it back and walk away.

With HP there are some restrictions you need to know about.

Overpayments, so let’s say you came into some money and you wanted to make an over payment you may be fined, or you may not be allowed. Most HP contracts allow you to make over payments, without a fine, but it is important to check before you sign.

Paying off early, with the FCA aka the Finical Conduct Agency, they regulate every lender in the UK, you are within your rights, to pay the whole thing off at any time. The only charge you can incur, is for the interest of the finance for that month and possibly a admin fee, each lender varies. If you call the lender, they will tell you exactly what the costs will be to pay it off early.

Leasing

Leasing can be done personally or through a business. Leasing is essentially “Vehicle Hire”. So, it has the same concept as a PCP, with deposit, duration and mileage restrictions.

So, you choose what vehicle you want, how long you want it for and what your annual millage is. The bigger your deposit is, the longer the term is and the lower your millage is the lower your monthly payments will be.

At the end of your term all you simply do is hand the keys back, there is usually no option of ownership at the end.

With leasing you can get terms for as little as little as 24 months, anything below is classified as short-term hire and that would be done through car hire companies.

One thing to remember, all leasing deals are plus VAT, so it makes more viable sense to lease through your business to claim the VAT back. There are also VAT incentives to go for leasing through a business, as the vehicle can go against you VAT bill.

Personal Loan from a bank

Another option is a personal loan from your bank. With a personal loan there is no resections with deposit, term, or millage.

A personal loan is not for everyone as, you would need to have a great relationship with your bank to obtain the loan, as it’s not secured against the car.

Why would I choose a bank loan over other types of finance? Depending on your credit history, your relationship with the bank and how much you are borrowing, the interest rate can be as low as 2.8% APR, where as on used car finance depending from what dealer, it can be as low as 5% and up to 45%.

 

Interest rates

Interest rates, they don’t only dictate how much your car finance cost you, they pretty much dictate your whole life. They control your mortgage, correspond with inflation and almost everything you will every buy in your life. For example, if interest rates are low, it helps the economy, with buying power, so companies can buy more goods and get a better deal on the price, making, those goods cheaper for the consumer. When interest rates are high it does the reverse.

“Welcome to the layer cake son”

The same applies for car finance and loans. The lower the borrowing rate from the bank of England is, the lower the borrowing rate is for your car finance.

New car finance rate the interest rate of new car finance varies so much, 9 out of 10 times the rate will always be cheaper that the used car finance rate. The main reason for that is, another incentive by the manufacture, to encourage you to buy a new car rather than a used car.

New car finance car be as low as 0%, yes interest free and up to 10% depending on the brand and what campaigns / offers they are running. Most new cars have a rate of in-between 2 % to 5% and new offers can change almost every month. So, let’s say a certain model of car is not selling as well as expected by the brand, what they will do is put an incentive there, like a lower interest rate to encourage you to buy it.

Almost every manufacture has their own in-house finance company, so VW group owns Audi, Bentley, Bugatti, Lamborghini, Porsche, SEAT and Skoda. (I bet your surprized by that) VW Financial services controls, all of the offers and rates on their new and used car finance sold through main dealers. VWFS can change offers and rates to encourage new car buyers, to buy a new car from them. So with new car finance, the cheapest option is usually the brands own finance company, if the rate is below 5% and you also get other incentives like a deposit contribution, which only the brands own finance company can offer you.

 

Used car finance rate used car finance can vary with what deal it’s on, HP or PCP, what car it is and who the applicant is.

For example, a person with a great credit rating, will get a better deal than someone with a poor credit rating.

It can vary on weather its on a PCP or HP, because of the balloon payment at the end of a PCP and what is the value of the balloon at the end.

Most main dealers charge in-between 9% to 12% on used car finance. Most car super markets charge in-between 11% to 20%, but I have seen some as high as 45%, that is a rip off.

But I am here to help and save you money. I used to sell finance through my independent dealership as low as 5% to 6%.

So how can I be cheaper than a main dealer and a car super market?

If you have ever been to a main dealer or car supermarket. What is the one thing they try and sell you, finance. The reason why they try so hard to sell you finance, is because the salesman gets commission, then the dealer gets commission, sometimes the dealership gets over £1,000 in commission by selling you rip off finance.

To find cheaper and fairer finance, visit our Finance brokers page, where it will give you a list of finance companies that will give you low rates.

Can I buy a car from a dealer and use a different finance company?

As long as the dealer has a consumer credit license, that means they are regulated by the FCA, they can be paid out by any finance company of your choice.

Most independent dealers wouldn’t have an issue of you self-funding, as it’s no different to you paying for it on your card, as they still get paid for the vehicle.

Main dealers and super markets may not be to happy about it, as they won’t get their commission, but look at it this way, if you paid for it on your card, they still won’t get any finance commission, as you’re a cash buyer.

As my dad used to say “if you don’t ask you don’t get”