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Car Finance Journey

Car Finance Journey

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Are you confused about how the car finance journey works? In this post, we explain how to choose a car finance product and how to get accepted.

Buying a car requires a major cash outlay. Many people, therefore, choose to get car finance. 
The subject of finance, though, can be a little tricky. What is financing a car? 

The basic idea is to borrow money from a lender and then pay it back over the following months. But because there are so many different finance products floating around, the reality is a little more complicated than that. 

Don’t worry, though: we’re here to help. In this post, we run through the entire finance journey, from choosing the finance product you need to actually getting the money required to purchase your vehicle.

So, how does financing a car work? Read on to find out more. 


Choosing A Car Finance Product

The first step in the car finance journey is to choose a financing product that makes sense for you. Whenever you buy a vehicle, you’ll need some kind of finance to give you the cash you need to pay the dealership (unless you’re paying 100 percent out of pocket).

What is covered in: 

Let’s explain each of your options. 


A hire purchase is where you pay a small deposit for the new or used vehicle you want (usually around 10 percent), and then pay off the remaining value of the car in monthly instalments over a fixed term. So, under a hire purchase agreement, a lender may ask you to repay the value of the vehicle in 60 months, plus interest. 

Under a personal contract plan, the rules are slightly different. Again, you put down a deposit of around 10 percent of the car, and then you pay fixed monthly instalments over a period of three to five years. At the end of the period, you then have a menu of options. You can either return the car to the dealership for no additional fees. Or you can make a large final payment (sometimes called a balloon payment) to take ownership of the car. 

If you take out a personal loan, you may not have to pay a deposit at all. Here, you simply go to a lender and ask them for the full amount for the vehicle. They will then give you the money to pay the owner of the car (usually a dealership) and then ask you to repay them in monthly instalments over several years. 

Lastly, you may opt for personal car leasing. Here you pay a deposit, as you do under a personal contract plan, but at the end of the agreement, you don’t have the option to make a balloon payment to take full ownership of the vehicle. Instead, you have to hand it back to the car dealership or supermarket offering the deal. 


Bank Loan 

When taking out a bank loan, you borrow a set amount of money, which is paid back over a period of time agreed with your creditor. As a loan is not secured against your vehicle, the car is yours from the moment you pick it up.

Unlike car finance, you also don’t need to place an initial deposit to borrow the money – which could land you in a new or used car sooner than saving for a deposit payment would. Also, bank loans do not limit your annual mileage in a vehicle, as many finance options do.

Opting for a bank loan also gives you the freedom to shop around to find the best interest rates. Remember, you’re not limited to the bank you hold an account with when seeking a loan.

Pros to Bank Loan 

  • Allows you to buy a car outright
  • Great if you have a good credit rating

Cons to Bank Loan

  • Interest rate increases if your credit rating is poor
  • May also be difficult to be approved if your credit rating isn't good

Personal Contract Purchase (PCP)

One of the most popular car financing options available is the personal contract purchase deal. The flexibility and low payments associated with this type of finance scheme will mean that over 70% of people seeking financing choose this option. 

A personal contract purchase gives you the chance to pay lower monthly payments than you would with other forms of car financing. You will pay an initial upfront deposit, which is typically larger than deposits in other financial products and the amount that you will pay will mainly depend on the make and model of the car. 

Fixed monthly payments follow the initial deposit. These monthly payments are lower when taking out a PCP because they only cover the cost of depreciation of the vehicle. There will be a larger final payment at the end of the agreement. This payment is often called the ‘balloon payment’. Once you pay that last payment, you will own the car. If you reach the end of the PCP, you can choose not to pay the final sum and to give the car back. The final payment will be the resale value of the car, and the exact amount of this payment will be made clear to you at the start of the contract. 

As the final payment amount will be based on the amount that the car will be worth in terms of the resale value at the end of the contract, there may be certain conditions that you will need to meet with such as not exceeding an agreed mileage and maintaining the car in good condition.

The pros of purchase contract hire: 

  1. You benefit from much lower monthly payments
  2. The length of the contract can be chosen when taking out the financing
  3. Your monthly payments only cover the cost of depreciation of the vehicle
  4. You can buy a car that would otherwise be out of your budget
  5. Ideal for anyone who wants to change their vehicle every three to four years
  6. Car warranties usually run for the length of the finance agreement so.

The cons of purchase contract hire: 

  1. Although you are the registered keeper, you only become the owner if you make the final payment
  2. Without being the owner, you never have the car as an asset to sell at the end of the agreement
  3. Drivers may incur costs for exceeding mileage or damage to the vehicle outside of general depreciation. 

Hire Purchase (HP)

A hire purchase agreement lets you take out financing for your car with a fixed interest rate over the entire term of the contract. If there is a change in interest rates within the economy, this will not affect the rates on your hire purchase. 

A deposit is required to start the agreement; the cost of this will depend on the value of the car that you're buying. You can choose to settle up your hire purchase agreement at any time.

The pros of hire purchase:

  1. Customers can buy a vehicle of a higher value or better spec that then could have done outright
  2. Fixed monthly instalments make budgeting easier
  3. You own the car as soon as the last payment is made
  4. There is no VAT on monthly instalments

The cons of hire purchase:

  1. The finance company are the legal owners of the vehicle until the agreement is fully paid up
  2. The interest rate on the loan will depend on your credit score
  3. The loan is secured against the car and non-payment can lead to repossession and will affect your credit score. 

Lease Purchase (LP)

Lease purchase financing is an option that is commonly used by businesses and self-employed people when buying company vehicles.  

The monthly payments on a lease-purchase will be at a fixed interest rate. The vehicle will be registered with the customer. At the end of the lease agreement, the car can either be sold to a third party or the customer can continue to drive the car for a lower secondary rental. You will never own the vehicle.

The pros of lease purchasing 

  1. Lease purchasing allows customers the use of a vehicle that they would not have been able to buy
  2. The VAT is payable on monthly payments which means that the payments can be offset against taxable profits when completing tax returns

The cons of lease purchasing

  1. The vehicle will always remain property of the finance company, and you will not own it
  2. If payments are missed, the vehicle can be repossessed, and non-payment will still affect the business taking out the lease
  3. If you or your company are made bankrupt, the asset is not protected

These are all mechanisms that allow you to spread the cost of your vehicle and avoid having to put the money down upfront. 


Car leasing

When you lease, you’re paying to use, not to buy, the car; so, you never own the car. That’s the important thing you have to decide on; do I want to own a car, which will depreciate in value, or do I want a new car every 2 to 4 years? If the answer is that you want to own the car, then leasing is not for you. If you like driving a new car, keeping up with technology and get bored driving the same car for years, then leasing is something you need to look at. 

You’ll pay an initial rental, which is normally 3x or 6x the agreed monthly payment; so if your monthly payment is £200 then your initial rental payment will be £600 to £1,800, dependent upon the lease contract you’ve chosen. You choose a contract length from 24 up to 48 months; choose your expected annual mileage and off you go.

Whilst you have the car, you should service and maintain it just as you would if you owned it, following the manufacturer’s service schedule, just as you would if you were buying the car. At the end of the contract, you hand the car back and walk away with no obligations, subject, of course, to you keeping within the agreed annual mileage limit and the car being accepted with fair wear and tear.


Can I Get Car Finance?

Lenders will check your credit history before providing finance. It is critical, therefore, to take steps to convince them that you have the means to pay them back. Here are some things that you should try to do: 
 

  • Be able to prove your identity and country of residence
  • Demonstrate that you have a regular source of income 
  • Improve your credit score by paying back other lenders
  • Get preapproved before you apply for car finance
  • Have a deposit ready or a vehicle that you can trade in for a deposit

What To Do If You Don’t Get Accepted For Car Finance

Sometimes lenders will refuse to provide car finance if they believe that you are a high risk borrower. You can, however, appeal their decision (or at least find out what went wrong). Here’s what to do:
 

  • Ask your lender why they rejected your application. Sometimes they will reject you based on incorrect information
  • Don’t immediately apply for car finance from another institution if a lender rejects you. Instead wait a while so that you don’t appear desperate for cash
  • Continue working on improving your credit score by repaying other lenders
  • Apply for credit for a more affordable car that will also meet your needs
  • Get a loan, such as a hire purchase, that’s secured against the car itself

 

Ultimately, a rejection isn’t the end of the line. Instead, it is usually just a matter of finding out what went wrong, correcting the issue, and then reapplying later on. 


How Much Can I Afford?

‘How much can I afford?’ is an important question to ask before you make any decisions about the type of car finance that you take out, or before thinking about the make and model of car that you will be buying. 

Cost of fuel

Fuel costs vary from day-to-day and can rise by considerable amounts at times. This may mean that it can cost quite a bit more to fill your tank up on certain days. The way that you drive and how well maintained the car is will affect your fuel consumption too.

Insurance

An essential legal necessity is that you take out an insurance policy for your car. The minimum cover that you can get will ensure that any driver that you crash into will be covered in the event of you crashing the vehicle. It is not however recommended that you get such a low level of cover as this will not protect you if your car is stolen or damaged when not being driven. The most advisable level of cover would be a fully comprehensive cover that ensures that you have protection too in the event of a crash that is your fault.

MOT Costs

Mandatory vehicle tests need to be carried out once a year. This will need to be done by a registered garage that offers MOTs. Following a test, your car with either pass or fail. If it passes, it is safe to continue driving, although it may have some advisory issues that will require attention. Speak with the garage to find out more about these and if you need repairs immediately.

In the event that your car fails its test, you will not be allowed by law to drive your vehicle until any remedial work is carried out. While you could fail on something that won’t cost much to repair, such as a lightbulb not working, you may fail on a number of very costly problems. Factoring in the price of any large repairs is something that is essential.

Road Tax

You will need to pay road tax on your vehicle, and the amount that this will cost you will depend on the size of the engine and classification of the car. You can either pay this in one annual payment or every six months. Driving without paying your tax is illegal, and you will face large fines, and the potential to have your vehicle clamped. You will also not be able to take out insurance on your vehicle. 

Service Plans And Ongoing Maintenance 

Keeping your car in good condition will save you money in the long run. It will prevent your car from becoming damaged and will help with your fuel efficiency. A well-maintained vehicle with a full service history will also sell for a higher price should you ever decide to change cars.

There may be things that go wrong with your car as time goes on. Clutches will wear out after a few years, batteries, tyres and brakes will all wear out. It’s always best to plan ahead and keep a little bit on the side to help with unexpected maintenance costs.  Service Plans are a great way to spread your maintenance costs and are often interest free.


Go Ahead With Finance

Lastly, once a lender approves you, it’s time to go ahead with finance. Lenders will provide you with the money you need to pay the full price of the vehicle you want to buy or lease upfront.