When looking to take out car finance, you will undoubtedly come across the term APR. It’s probably even a term you’ve come across before in relation to credit cards or other loans, as it’s regularly used when speaking about lending, But it can often be confusing to understand, leaving many baffled as to whether they’ll need to do complicated calculations to work it all out.
Here at Hippo, we like to make things simple when it comes to car finance, so we’re here to explain it all giving you the confidence when you come to buy your car.
What is an APR when buying a car?
APR stands for Annual Percentage Rate. It combines the interest rate and any standard charges and expresses it as an annual percentage rate. The APR makes it easier to compare products, because it creates an equal playing field for you so that you can calculate the cost of and compare different finance offers.
How does APR work?
An APR is different from an interest rate as all fees and charges are included in the APR so you are getting a true reflection of what the money is actually costing you rather than a headline rate.
Example: you want to buy a car for £12,000. You have a £2,000 deposit and want to spread the rest of the cost (£10,000) out over 3 years (36 months). The APR is 5.0%. This includes the interest rate as well as standard fees payable, such as an administration fee.
This would mean 36 monthly repayments of around £299.21, so a total cost of £10,771.58. So your total cost of borrowing (interest and fees) is £771.58.
As you can see, the APR is different from the interest rate, as it includes any additional fees or charges for the loan. It’s a true reflection of what the money is costing you to borrow.
Representative vs Personal APR
By law, any credit consumer agreement must have the APR on it and it must be placed in a prominent position and stand out from the text around it. This makes it clearer, for you the consumer, to know exactly what the cost of borrowing will be.
However, the APR includes the interest rate on the loan and that is something that is worked out using your credit score. So the Representative or typical APR refers to the rate that at least 51% of successful applicants will get on that deal. In a nutshell – over half of people will receive this rate and the other 49% of applicants may be charged a higher APR depending on their credit history.
If you are not offered the Representative APR, you will be given a Personal APR, specific to your circumstances and usually higher as it is based on your credit score.
What about flat rate?
Flat rates are less common than APRs, but you can still find them around. They’re not quite as transparent as APRs, so it may seem like they’re a better deal. However, all finance issued in the UK has to have an APR rate, so if you’re not sure – always ask.
The difference between a flat rate and an APR is that with a flat rate you are charged interest on the original amount you borrow, regardless of how much you have paid off.
So if you borrow £10,000 over 3 years with a flat rate of 5%, you will pay 5% interest on that £10,000 every year. With APR, you will only pay interest on the money you still owe, not the total amount.
What is a good APR on a car loan?
If you’re going to get a car loan, a good APR is basically the lowest one you can get. As APR depends on your own credit score, it’s personal to your circumstances.
On top of that, it also depends on the type of finance you choose – Personal Contract Purchase (PCP), Hire Purchase (HP) or Personal Contract Hire (PCH).
Franchise car dealers and manufacturers sometimes offer 0% car finance deals – they are essentially interest-free loans.
Some may think there’s a catch to 0% car finance, as you’re not paying to borrow the money. While they’re not a scam, deals like this are harder to secure and whether they’re the best option for you will depend on your individual circumstances.
To qualify for a 0% APR deal, you usually need an excellent credit rating. They often have other limitations too, such as shorter terms so other incentives can work out to be of more benefit. To ensure it’s right for you – as with any financial agreement – take your time to fully understand what’s involved and all the terms and conditions.
Sometimes you will find headline rates of 2.9% APR or 3.0% APR. These are generally for personal loans and, if you are fortunate enough to have an excellent credit history, then you may qualify for them through your bank or other financial institution.
They are unsecured loans in that they are for cash, paid into your account and not secured against an item like a car. Some prefer to take out personal loans and then use this cash to buy cars and it’s a perfectly acceptable way to finance though you will not benefit from being able to hand back the car as with PCP or PCH.
If you are going for more conventional finance such as a PCP deal, and your credit score is near perfect then you are likely to pay around 6% to 11% APR.
If you are near-prime (basically meaning you have a good credit score, but it’s not excellent) then expect to pay from 12% to 19%.
Specialist lenders for those with lower credit scores kick in around the 20% APR mark rising to 50% and even higher if you have a poor credit history.
There is also the option of a guarantor loan, which is normally set around 45-50% again depending on the credit score of the guarantor.
Average APR for a first-time car buyer
First-time car buyers can face higher APR rates, simply because they tend to be younger and have a lack of credit history.
If you already have a credit history and a good credit score, you may qualify for a good rate. Buying a new car at a dealership can often be the best option to secure your lowest rate, but remember affordability also comes into play – so make sure you can comfortably afford the repayments.
On average, if you have a good score, you should be able to find car finance for around 6% to 12%. If you have no credit history, you could be looking anywhere in the region of 20% APR and upwards.
Find out what APR you could be eligible for using our free online calculator without harming your credit score
How to reduce APR on a car loan
There are a few different ways that affect the APR on your finance package and there are also some things you can do to ensure you get the best deal you can.
The type of car you choose
The age of the car you choose has an effect on the APR. New cars can sometimes have the option of zero-interest finance agreements, because a new car is likely to be more expensive to buy. However, you need to have a very good, if not excellent credit score to qualify.
The older the car, the higher the interest rates are likely to be. This is mainly because a used vehicle’s value is harder to pinpoint and, as it’s a secured loan, is seen as more risky for a lender.
So, if you want a lower APR, consider getting a new or a nearly-new used car.
The term of your agreement
Simply put, the longer you borrow money, the more interest you will pay. So, even if you find a low APR deal, if your term length is very long, you’ll pay much more in interest overall.
When deciding how long you want your finance agreement to run for, ideally you want a short term with a good interest rate. However, you also need to think about affordability of your monthly payments so the limit of your budget needs to come into play here too.
Another factor is depreciation. A longer term loan also means the car may have less equity in it by the time you make your final payment. If you intend on selling or part-exchanging your car, this is something to think about.
Choosing the right lender
It pays to do your research when looking for the best APR. If you aren’t getting the money to finance your chosen car through private means, such as a family or friend, then typically you will be using a bank or credit union through your dealership.
Dealerships, such as Hippo Motor Finance, will find you the best deal from the lenders they work with. Even if you have a less than gleaming credit rating, we have specialist lenders who can help find a deal that’s suitable for you.
Improve your credit score
The higher your credit score, the better the chance you have of being offered a lower APR. All finance applications go through a credit check and, if your score is too low you risk having your application rejected or offered a deal with a higher interest rate.
Happily, there are many different ways to improve your credit score and have a better chance of being accepted for the most competitive deals.
Short term fixes
Be wary when applying for credit
It’s tempting, when looking for a car finance deal, to hedge your bets and apply to a few different places to see if you’re accepted. This is actually the worst thing you can do, though.
Every time you apply for credit, a check is carried out on your credit report. While one application won’t cause much damage, making multiple applications within a short space of time is a red flag to lenders, as it looks as though you’re desperate for credit. Activities like this almost always lower your credit score too.
The way around it is to always use a soft search check like the one Hippo offers. This way, you won’t harm your credit rating and can see which deals you’ll be accepted for.
Register on the electoral roll
If you don’t have any history of borrowing or credit, you can easily start by registering with the Electoral Register. This not only helps lenders identify who you are and where you live, it gets you points on your credit score and shows stability.
Spring clean your accounts
Close any unused accounts and cancel any unused credit cards. Lenders take into account how much credit you have and if there is a lot available, they may wonder why you’re applying for more.
Be careful, though. The overall age of your credit accounts also helps your score, as the longer you’ve held credit the easier it is for the lender to make an accurate decision on your borrowing habits. So check the age of the account before you make the decision to close it.
Keep good financial habits
The most important thing you can do for your credit score in the short term is to pay regularly and on time. Missing or late payments can seriously damage your credit score. Keep trying to get your debt down by making regular payments and in turn you’ll see your credit score rise, as it proves that you are a sensible borrower on top of their finances.
Long term fixes
There are two easy ways of improving your credit over the long term: use a credit builder prepaid card and a credit builder credit card. When used correctly, these can both be good ways of boosting your credit rating.
A credit builder prepaid card works as a type of loan by a prepaid card company. You sign a credit agreement for a certain amount and agree to pay a monthly amount to pay off the loan. For example, you could borrow £120 on a prepaid card and pay back £10 a month. This counts as twelve months of successful repayments, so therefore counts towards improving your credit rating.
The same principle relates to credit builder credit cards. If you continually pay them off monthly and on time, then you are constantly building up your credit score. Be aware, there is a risk with these credit cards, as the APR on them is generally higher than normal credit cards. You may end up paying interest rates of over 30% in interest annually. To avoid this, ensure you pay off the balance monthly.
Can I apply for a car loan online?
Many car finance lenders either offer you finance first and then you have to find a car following that. Or you have to have a car before you go to a lender to get it financed.
With Hippo Motor Finance, that is not the case. We can offer you a car and finance deal as one hassle-free package.
Find out if you’re eligible and what kind of interest rate you could get in just a few minutes with no impact on your credit score. Use our soft search tool here.