When it comes to buying a car, you’re faced with many decisions – not least of which is how to fund it.
Over the years, car finance has become an increasingly popular option with buyers. In a nutshell, car finance can help you spread the cost of a new vehicle, rather than having to pay the full amount upfront. A good alternative if, like many, you don’t have a lump sum of cash readily available.
But with so many types of car finance options out there, it can be tricky to choose the most suitable way to fund your purchase.
So, to help you navigate through the maze and make the right choice for you, we’ve cut through the jargon to look at the main types of car finance and their pros and cons.
You can read more about what car finance entails using our guide: Car finance explained: What is it and how does it work?
If you want to own your car outright by the end of your finance agreement, hire purchase (HP) is one option that is worth considering.
How does hire purchase work?
With a hire purchase agreement, you typically put down an initial deposit – usually around 10% -(although you don’t have to) followed by monthly payments over a fixed period. Once you have finished making the payments, you become the legal owner of the car.
If you put down a larger initial deposit, you’ll have lower monthly payments and vice-versa. Interest is added to the loan; however, much like a standard loan, it’s often possible to pay it off earlier depending on your agreement’s terms and conditions.
What are the pros and cons of hire purchase?
If you’re thinking of buying a car with a hire purchase agreement, it’s a good idea to weigh up the pros and cons first.
Pros of hire purchase:
- You don’t have to use a lump sum or save up to purchase the car you want, meaning you could take advantage of buying a new, higher specification car
- You can spread the cost of the car over a longer period of time to make repayments more affordable. Typically, repayments on hire purchase agreements can range from one to five years
- The interest rate is fixed, meaning you’ll know exactly what you have to pay each month and for how long
- You own the vehicle as soon as the agreement comes to an end
- If you find yourself in a position to do so, you can often pay off the agreement and own the car earlier
- You can choose a deposit that fits your budget, often starting from £0
- There are no restrictions such as mileage or service clauses
Cons of hire purchase:
- Interest is added to your monthly payments, meaning you’ll pay more than if you’d paid for the car upfront
- The longer your repayment term, the more interest you’ll pay on top of the car
- The provider with whom you took out the agreement technically owns your car until the plan is paid off, meaning they have the right to repossess it should you fail to keep up with repayments
- If you want to end the agreement early, the outstanding amount has to be paid in full, regardless of whether the car is worth less than the amount secured against it
- A credit check is performed when taking out hire purchase, and your rating can affect the interest rate you’re offered
Personal Contract Purchase (PCP)
PCP has become an increasingly popular choice for car finance over the years, with flexible options available when your term comes to an end.
How does PCP work?
PCP works a little bit like a hire purchase agreement, but there are some key differences when the term ends.
You still pay a deposit on the car you want, and there are still monthly repayments until the end of the agreement. However, when the contract ends, you have some choices as to what you can do. You can either return the car, make a lump sum payment to purchase the car in full, or part-exchange it.
It’s a slightly more complicated car finance option, so let’s look at the pros and cons.
Pros of PCP:
- Typically, monthly repayments are lower than with hire purchase
- It’s easier with PCP to roll your deal over at the end of the term and a good choice if you like the idea of a new car every few years
- You’re protected to some extent against depreciation, having the option to hand the car back to the provider
- With a newer vehicle, there are often fewer maintenance and running costs
Cons of PCP:
- There’s no guarantee you’ll become the owner of the car. If you can’t make the end lump sum repayment, you’ll either have to hand the car back or start a new deal
- You have to keep the car in good condition and are tied to where you can get it serviced. Penalties for damage can be high
- There are typically limits on annual mileage and penalties for exceeding these
- You can’t modify the vehicle during the term of the contract
- If you’re unable to make monthly repayments, you’ll have to return the car and potentially make a lump sum payment to make up the difference in value
- If you choose to upgrade to a new car at the end of the agreement, you may have to pay more deposit
Personal Contract Hire (PCH)
Personal Contract Hire is a common way of leasing without worry and if you enjoy having a new car every few years.
How does PCH work?
Personal contract hire works similarly to PCP, but with one major difference. With PCH, you make an initial deposit followed by monthly payments for a fixed term, but there’s no option to purchase at the end of the agreement – you hand the car back.
If you’re looking for more flexibility and have no plans to buy the car at the end of a PCP, personal contract hire could be the right option for you.
Pros of PCH:
- It can be cost-effective. Monthly payments on a PCH deal are typically cheaper than those for a PCP. You may, however, find you have to pay the first few monthly instalments upfront as a deposit, although you can get PCH deals with £0 deposit
- There’s the freedom to change your car every few years without worries about depreciation
- You have fixed monthly payments, which can include road tax and a maintenance package if you opt-in for this
Cons of PCH
- You won’t own the car
- There are typically limits on annual mileage, although there could be the option to increase these by increasing your monthly repayments
- If you damage the car, outside of any wear and tear, you could be charged for repairs by the hire company
- Other restrictions may apply, such as taking your car abroad, depending on the plan’s terms and conditions
Pros and cons of car finance at a glance
|Deposit required||Fixed monthly payments||Own car outright||Secured against car?||Mileage limit||Risk of depreciation||Early settlement option||Fines for damage|
|Personal Contract Purchase||Yes (lower)||Yes||Optional||Yes||Yes||No||Yes||Yes|
|Personal Contract Hire||Yes (lower)||Yes||No||Yes||Yes||No||No||Yes|
Which type of car finance is right for you?
Different types of car financing will suit different needs and circumstances. Whether you want the flexibility to change the car you drive more frequently or are simply looking for the most cost-effective route to car ownership, each option has its own pros and cons.
When it comes to choosing the right one for you, it’s important to take your time and understand all your options.
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