Car finance explained – Millennial money

In this week's millennial money episode, I ask financial expert Damien Fahy about the confusing world of car finance and the different types available.

What are the different types of car finance?

Damien Says:

PCP - best if you want low monthly payments and a new car

PCP stands for Personal Contract Purchase and it's a form of finance where you have the option to own the vehicle at the end of the contract, but you don't pay all of the money up front. With PCP you are the registered keeper of the vehicle (but not the registered owner) until you reach the end of the agreement and either purchase or return the car.

With PCP:

• pay an initial deposit amount
• have set monthly payments
• settle the finance with a balloon payment at the end

For example, if the car is £20,000 you may opt to pay £3,000 up front, the rest is then financed with a relatively low interest rate. You then have the option to pay a lump sum at the end of the term in order to purchase the car outright. The lump sum payment (often referred to as a balloon payment) is based on the current mileage, the age and current market value of the vehicle.

However, the benefits of a PCP agreement is that if you do not want to own the car at the end of your finance term you can hand the car back free of charge. This will depend on the value of the car and that the car is handed back in good condition, otherwise you may have to make up the value with a final payment. The other alternative at the end of a PCP agreement is to part-exchange the car, starting the process again on a brand new vehicle.

It is important to be aware of all of the Terms and Conditions on your agreement as there may be clauses such as an agreed mileage limit or specific service times to maintain a warranty on the vehicle.

Pros and Cons of PCP

Pros

• low monthly payments
• lower deposit in most cases
• option to own the vehicle at the end
• option to hand car back to dealer
• newer vehicles can be more affordable
• option to change the car every 3 or 4 years

Cons

• large balloon payment
• interest charges mean you pay more than the vehicle is worth
• lengthy T&C's
• mileage limit
• do not own the vehicle throughout the term

Hire Purchase - best if you want to own the car

Hire purchase tends to be best for those who want to own a brand new car outright, but don't have the money to pay for it upfront. Hire purchase works by entering a 3-4 year term agreement but you finance the car to own it at the end.

With hire purchase:

• initial lump sum deposit
• monthly payments
• balloon payment at the end of term

N.B - in some cases a balloon payment isn't necessary at the end of the term as you can finance the entire amount through the monthly payments, however, most people opt to have a balloon payment at the end as it means the monthly instalments are reduced. Balloon payments can also be refinanced at the end of the term if you do not have the lump sum to make the final payment.

Mileage restrictions do not apply to a hire purchase as you are financing the vehicle to own it at the end, as a result, there are fewer terms and conditions

Pros and Cons of HP

Pros

• own a new vehicle without having the money to buy it outright
• fixed monthly payments that do not rise with inflation
• own the vehicle at the end of the agreement

Cons

• loan is secured against the car so it could be repossessed if you fail to keep up payments
• higher monthly payments
• do not officially own the car until the end of the agreement

PCH or Leasing - best if you don't want to own the car

PCH stands for Personal Contract Hire and it is completely different from PCP and HP finance. With leasing, you pay a monthly fee to hire the car and you do not have an option to own the car at the end of the contract. PCH is good if you need a car but do not have a large deposit and do not want to own the vehicle at the end.

With PCH:

• pay 1-3 months payments as an initial deposit
• have a monthly set amount to 'rent' the car over 3-5 years
• return the car at the end of the agreement

At the end of the personal contract hire agreement you do not have the option to keep the car or part exchange it for another vehicle, you simply return it to the leasing company. As you are not the registered owner or keeper of the vehicle you do not have to pay tax on the vehicle as this is included in the monthly payments.

With PCH it is worth remembering that whilst you are leasing the car you are responsible for the upkeep of the vehicle. You will likely be charged for any damage when it is time to hand the car back and there will be an additional charge if you go over your allowable mileage limit.

Pros and Cons of PCH

Pros

• no large deposit required (first few monthly payments)
• do not have to worry about the vehicle depreciating in value
• good if you don't want to own the car
• lease may include a maintenance package that includes tax and servicing costs
• handing the car back allows you to have a new vehicle every few years

Cons

• never own the vehicle
• bound to T&C's
• mileage limits

Summary

There are various finance options out there, all of which can be tailored to suit your individual needs. We recommend that you research what is best for you. It is worth noting that some contracts allow you to terminate the contract early, so long as you have paid at least half of the vehicle and are at least halfway through the term. Car financing can be confusing and so don't be railroaded into an agreement that doesn't work for you. Take time to research all of your options and make sure you find the best deal and vehicle that suits your needs.

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