Thinking of buying a new or used car? Check out the different options and find out which one is best for you
Buying a new or used car is challenging, even for people with experience. With various financing models to consider and the jargon that comes with it, the process can understandably be daunting. To cut through the confusion is this convenient buyer’s guide to shed some light on the subject, and hopefully making it easier to comprehend every stage of the process from the start to finish.
What is car finance and how does it work?
Car finance is the umbrella term used to encompass a range of options for borrowing the money needed to purchase or lease a new or used car, before buying it outright or returning it. No matter the methodology you select, the arrangement will consist of borrowing money from a lender, then putting down an initial deposit and paying it back with regular instalments.
What are the options for buying a new or used car?
The biggest factor that influences the type of purchase you make is how much money you have available to allocate towards it. There are pros and cons of each method, and each arrangement will come down to your own personal circumstance and preference. The name of the game here is doing due diligence, which is essential to working out what finance model suits you best.
Hire purchase (HP)
The simplest way explaining the Hire Purchase method to buy your car is to compare it to having a mortgage. You typically put down a deposit then repay the rest via instalments over a loan period. Like a mortgage, those repayments include interest. Once the loan period has been completed, the car is yours.
This comes with notable advantages. The car will be yours outright at the end and that time period is flexible depending on terms and conditions. Furthermore, these arrangements don’t come with mileage restrictions, so you are at liberty to use the car as and when you want to.
But there are disadvantage too. This method is an insecure framework, as if you miss a repayment, the car could be repossessed, which could also affect your credit score. There are strings attached with this arrangement as well. You need express permission to modify or sell the car, and while this restrictive structure is fine with some people, it won’t suit everyone.
Personal Contract Purchase (PCP)
This option is the most confusing to comprehend, but it’s the preferential choice if you like changing your car every two or three years. The loan covers the difference between the car’s value when new and the car’s value at the end of the hire agreement.
Breaking that arrangement down helps to explain what it represents in simple terms. Let’s say you sign up to PCP for three years for example. The car you are purchasing costs £25,000, and the finance company says it will be worth £15,000 when the deal ends. After you put down a 10% deposit of £2,500, you then owe £22,500, and you have a loan for this amount.
However, because the car will be worth £15,000 after the deal expires, you only need to pay £7,500 over three years. But you’ll have to pay interest on the £22,500 in the monthly payments. Only when the loan period is up will you pay the £15,000 to purchase the car outright, or you can hand it back. You will have to keep the car in good condition and abide by an agreed mileage as well.
This does come with advantages for affordability such as a lower deposit and monthly payments compared to a personal loan or hire purchase arrangement. You also have no concern about the depreciation of the car as you return it when the time is up. The drawback is that you won’t own the car, and that you are exposed to fluctuations in interest rates, which can change your repayments. You might also have additional charges if you exceed an agreed mileage.
Personal Leasing (contract hire)
This method is like renting a house or flat. After you’ve paid a deposit that’s usually between three and six months of the monthly payment, you pay a fixed monthly fee over an agreed time period. When the agreement ends, you give the car back. You won’t have to pay anything extra either if it’s in good condition, and you’ve kept to the agreed mileage.
The flexibility of the terms and the simplicity of the contract are the advantages of this arrangement, and there’s no worries about the car depreciating in value, as you return it after the allotted time. On the other hand, that does mean you never own the car, and it has to be kept in good condition if you want to avoid charges for damages. Keeping within a set mileage though is another disadvantage that restricts your liberty to drive as and when you want.
Personal Loan
This option is where you borrow money from a lender and agree to pay it back via fixed monthly payments. The catch with this is that interest will be added to those repayments, so you pay back what you owe, and then the percentage of interest on top of that. Once the money is in your account, you can use it purchase the car outright. There are some things to bear in mind though. Your credit score is a factor that could compromise how much money a lender will give you, and if your credit history is not great, then you could be rejected from a loan altogether.
That could harm your credit score, as could actually taking out a personal loan in the first place, as lenders perform hard credit checks. Other disadvantages include the depreciation of the car’s value, so the car could be worth less than what you paid for it. The monthly payments could be higher than other forms of finance as well, depending on the terms of the arrangement. However, the advantages are that you’ll own the car outright when you buy it, there’s no restrictions on the amount of mileage you do, and you can choose the duration of the loan period.
Buying with your credit card
Purchasing a car with a credit card means that the full amount is paid up front, and you pay the credit card company back over a period of time. There is the possibility of paying interest though. As an introductory offer, many companies have 0% interest, so as long as you repay the money, you shouldn’t have to pay added interest. You can often choose the timeframe for your repayments too, but you must meet that monthly amount to avoid additional costs.
The potential problem here is that some dealers might not let you purchase the car using a credit card. Or they limit how much you can spend, and perhaps even charge extra. Some credit card companies may also limit how much you can spend on an individual purchase. However, if you are able to pay using this method, you are protected by the Consumer Credit Act.
This comes into effect with purchases between £100 and £30,000 and applies if the car company doesn’t supply the car, misrepresent what they are selling, or the car doesn’t meet the standards that were expected. You are able to repay in monthly instalments, although the accumulation in interest could cost more in the long-term. There might be some other incentives with credits cards, like cashback or rewards. The disadvantages with interest rates and credit limits are a rationale reason to be deterred from pursuing this option.
Buying using savings
If you are fortunate enough to have a considerable amount of savings, you can acquire a car outright with no strings attached. This way, you’ll own it straight away without owing anybody anything. That also means you can sell it when you want too as well.
Of course, you do that knowing that the car could depreciate, which means the value of it decreases, so you will receive less money when you come to sell it than what you paid for it. That is unless you are purchasing a special car that’s rare. In this case, it conversely accumulates value.
The bottom line is that buying using savings narrows down your options of what type of car you purchase, as it’s determined by how much money you are prepared to spend in the first place. This method is not frequently adopted for purchasing a new car, but is common in the used car market.
Callum’s conclusion…
There is no right or wrong way to purchase a new or used car. Circumstances and preferences determine your chosen method, and every option comes with trade-offs. Having said that there are arrangements that come more recommended than others.
If you are interested in changing your car every few years, then the Personal Contract Purchase (PCP) is the way to go. It’s the most cost-effective, and there are relatively few strings attached. If you can afford it, buying from savings is the most assured form of purchase, and gives you guaranteed security that the car is yours outright. And Personal Leasing ensures that you drive a new car without having the uncertainty and unpredictability of interest rates changing your repayments.
These are the options that I would personally consider if I were in the position of looking to purchase a new car, as they tend to have the best terms and conditions and come with the fewest drawbacks. Whatever the methodology though, due diligence is essential in making sure that purchasing a new car works for you.
Photo: Lendela
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