A Guide to Understanding Car Financing Options in the UK

Navigating the world of car financing can be overwhelming, especially with the variety of options available in the UK. Whether you're considering buying, leasing, or subscribing to a car, each method has its own advantages and disadvantages. There is no right answer for everyone or every car.

In this article, we’ll break down the main car financing options, helping you to make an informed decision based on your needs and financial situation.

1. Personal Contract Purchase (PCP)

How It Works: PCP is a popular financing method where you pay an initial deposit, followed by monthly payments. At the end of the term, you have the option to pay a final balloon payment to own the car, return the car, or trade it in for a new one.

Pros:

Lower Monthly Payments: Compared to traditional loans, PCP typically offers lower monthly payments.
Flexibility: Options to own the car, return it, or trade it in at the end of the term.
Newer Cars: Often allows you to drive a newer car more frequently.

Cons:

Mileage Limits: Exceeding the agreed mileage can result in extra charges.
Final Payment: The balloon payment to own the car can be substantial.
Equity: You don’t build equity in the car unless you make the final balloon payment.
Negative Equity: This has hit a lot of people recently. Second hand car values recently dropped significantly which left some people trying to end their PCP agreement early with a very big unexpected bill.

2. Hire Purchase (HP)

How It Works: With HP, you pay an initial deposit followed by fixed monthly payments. Once all payments are made, you own the car outright.

Pros:

Ownership: You own the car at the end of the term.
No Mileage Limits: Unlike PCP, there are no mileage restrictions.
Simple Agreement: Straightforward terms with no large final payment.

Cons:

Higher Monthly Payments: Monthly payments are usually higher compared to PCP.
Depreciation: You bear the full depreciation cost of the car.

Read more about the risks to HP.

3. Personal Loan

How It Works: You borrow a lump sum from a bank or financial institution to purchase the car, then repay the loan in monthly instalments.

Pros:

Ownership: You own the car immediately.
Any age of car considered: You might be after that special older car that you've always wanted.
Flexibility: No mileage limits or wear and tear charges.
Can be the cheapest option: With a good interest rate it can be the cheapest way of financing a car overall. It may not seem like it when you compare monthly payments with PCP, but overall including the value of the vehicle at the end and lack of additional fees, it is often the most cost effective option.
Easy to sell the car at any time: You are in complete control of what you do with the vehicle. There are usually no exit fees, although be aware, with personal loans the banks often lump the full terms interest on at the start. So you if you exit early, you will need to pay the full terms interest anyway.

Cons:

Credit Requirements: Requires good credit to secure the best rates.
Depreciation: You bear the full depreciation cost.
High monthly costs: Due to financing the whole car

4. Leasing (Contract Hire)

How It Works: Leasing involves paying to use a car for a set period, usually 2-4 years. At the end of the term, you return the car. It can be a much more straightforward option for financing car, especially if you don't mind if the car is never actually 'yours'.

Pros:

Lower Monthly Payments: Typically lower than HP or PCP.
Maintenance Packages: Often includes maintenance and servicing.
No Depreciation Worries: You’re not responsible for the car’s resale value.

Cons:

No Ownership: You never own the car.
Mileage Limits: Exceeding the agreed mileage can result in extra charges.
Wear and Tear Charges: Potential significant additional costs for excessive wear and tear.

5. Car Subscription Services

How It Works: Car subscription services offer an all-inclusive package where you pay a monthly fee to use a car, with the flexibility to switch cars periodically. Insurance, maintenance, and roadside assistance are typically included.

Pros:

Flexibility: Switch cars based on your needs.
Convenience: All-inclusive packages cover insurance, maintenance, and more.
No Long-Term Commitment: Often available with shorter-term contracts compared to leasing.

Cons:

Higher Cost: Monthly fees can be higher than traditional ownership, especially if you drive frequently.
Limited Ownership: You never own the car.
Availability: Not as widely available as other financing options.

Conclusion

Choosing the right car financing option depends on your personal circumstances, including your financial situation, driving habits, and long-term plans. Here’s a quick summary:

PCP: Good for lower monthly payments and flexibility. If you like expensive newer cars and change them often, then this can be a good option. But be very aware of vehicle depreciation. This can get you into trouble.
HP: Ideal for straightforward ownership with no mileage limits. It's usually the more expensive option. You don't actually own the car until it's all paid off. It also can make the car harder to sell if it still has finance attached to it. But it's a very simple way of financing the car and often better for medium-poor credit rating owners.
Personal Loan: Offers immediate ownership and flexibility. The total cost of ownership can often be a lot lower with the right car. But be careful with depreciation and interest rates. If you've got good credit rating, and want the flexibility to choose ANY type/age of car, then this is often the best option.
Leasing: Suitable for those who prefer lower monthly payments without the hassle of ownership. If you're a person that just want a reliable A to B type car and don't want any of the hassle of maintenance this is a good option.
Subscription Services: Best for flexibility and convenience but at a higher cost.

Our recommendations to help you decide:

Calculate the likely value of the car at the end of the term. Use our cost of ownership tools in the 'buying mode' of our app. You'll see likely depreciation costs and it will give a decent guestimate of the cars value in the three years time.
Use online comparison tools to get quotes on all of the different financing options based on the car you are looking at. Try PCP, HP, personal loan. Also check leasing sites and see if the model car you are interested in is offered.
Make sure you work out your likely mileage, and always add a bit extra to be safe.
Consider how you'll use the car. Is it likely to have additional wear and tear at the end?
Consider how likely you are to keep the car. Factor in the potential need to exit agreement or sell the car before then end of the term.

Each option has its own set of advantages and drawbacks, so it’s crucial to evaluate them based on your unique needs. Always compare deals, read the fine print, and consider seeking financial advice to ensure you make the best decision for your situation.

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