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Buying a car can be an expensive business, especially when we are talking about a brand new one. Fortunately, there are several ways to finance a car purchase, each with its own pros and cons. In this article, we will take a closer look at the various types of car finance available in the UK, what they involve, and how they work.
Personal loans are one of the most straightforward ways to finance a car purchase. Essentially, a personal loan is an unsecured loan, which means you don't have to offer any collateral (such as a property) as security. Instead, you borrow a set amount of money from a lender, which you repay over a set period, usually between one and five years.
Personal loans can be obtained from banks, building societies, or online lenders, and can be used to finance all or part of a car purchase. The interest rates on personal loans are typically fixed, which means you will pay the same amount each month and won't be affected by changes in the Bank of England's base rate.
For example, suppose you want to buy a car for £20,000 and take out a personal loan of 60 months with an interest rate of 3%. In that case, your monthly payments will be about £360, and the total amount you will repay will be around £21,600.
Personal Contract Purchase (PCP) is a popular form of car finance in the UK, and it differs from the traditional types of loans. With PCP, you don't pay off the full value of the car; instead, you make regular payments over a set period while the car has a predicted residual value. At the end of the contract, you can choose whether to pay the rest, hand back the car, or start a new PCP agreement.
PCP typically involves a deposit, followed by monthly payments that reflect the depreciation of the vehicle. Additionally, PCP agreements often come with mileage limits. If you exceed the pre-agreed mileage limit, you may incur additional fees.
For example, let's say you want to buy a new car worth £20,000. Instead of paying the full amount, you decide to take out a PCP agreement over 48 months, with a deposit of £3,000 and a residual value of £7,000 at the end of the contract. Your monthly payments will be about £250, and if you decide to hand back the car at the end of the agreement, you'll have to pay a £7,000 optional final payment.
Hire Purchase (HP) is a popular car credit agreement that involves paying for a car through a series of instalments. HP agreements work by paying a deposit upfront and repaying the rest of the car's cost over a fixed period, usually between one and five years. Unlike PCP agreements, the monthly payments don't factor in the car's predicted residual value.
HP agreements are secured against the car itself, meaning the lender can repossess the vehicle if the borrower defaults on repayments. As a result, HP agreements tend to have more favourable interest rates than unsecured loans. Additionally, the borrower will not own the car until they have made all the repayments.
For example, let's say you want to buy a new car for £20,000 and take out an HP agreement over three years. You put down a deposit of £3,000 and pay the rest over 36 months, with an interest rate of 6%. Your monthly repayments will be around £577, and the total amount payable will be just over £20,600.
Leasing isn't technically a form of car finance, but it is an increasingly popular way to run a car in the UK. With a lease agreement, you effectively rent the car from the leasing company for a set term, usually between one and three years, before returning it at the end of the term and paying any additional fees if applicable.
Lease agreements often involve a deposit, followed by fixed monthly payments that cover the car's depreciation. They also typically come with mileage restrictions, and exceeding these limits can result in additional fees.
For example, let's say you want to lease a new car for two years. You put down a deposit of £1,000 and opt for a monthly payment of £300. At the end of the term, you return the car, with no obligation to buy it. If you've exceeded the agreed mileage, you may be charged additional fees.
There are several ways to finance a car purchase in the UK, each with its own pros and cons. Personal loans are a simple way to borrow money, while PCP agreements offer flexibility but often come with mileage restrictions. HP agreements tend to have lower interest rates but require collateral, and lease agreements provide a hassle-free way to drive a new car, but come with restrictions and no ownership. Before choosing a particular type of car finance, make sure to weigh up the different options and consider which one is best suited to your needs and financial situation.