A simples guide

How does car finance work?

Buying a car can be really confusing – it’s not as straight forward as some purchases like choosing a chocolate bar. Cars are really expensive – the average used car costs around £7,600 and the average new car will set you back £28,500. Clearly riffling down the back of the sofa isn’t going to get you very far when it comes to a car purchase, so what other (legal) options are out there?

Cash or savings

If you’ve got cash burning a hole in an account somewhere but not earning much interest, you might find it more cost effective to buy your car with it, rather than taking out a loan or finance plan. Even if you don’t have quite enough to buy the car outright, you could use it to put down a great deposit which should reduce any monthly instalments.

Pile of coins

Hire purchase

This option is usually available directly from the car dealership, because of this, it’s an easy option to take. In most cases you’ll have to put down a deposit (the standard is 10%) and the rest of the cost will be divided into monthly repayments which you’ll have to pay back usually between one and five years.

The interest rate will usually be fixed so you’ll know exactly how much you need to budget for each month. If you’re planning on buying a shiny brand new car, then you might find better hire purchase deals compared to buying a used car – but new cars will also depreciate quicker.

One of the major drawbacks of hire purchase is that you don’t own the car until you’ve made the final payment, so you can’t modify or sell it. Also, what you end up paying back in monthly instalments will depend on what your initial deposit was and how long the payment period is. A small deposit and a short loan time will mean bigger monthly payments. But a longer loan time may mean you end up paying more in interest – conundrum.

Always look for great deals like 0% finance which some dealerships will offer. These packages are great if you can stump up a large deposit; it means your monthly instalments will be interest free but the repayment term will usually be shorter.

Credit card

Your flexible friend is more than just good for scraping ice off windscreens. The protection provided by Section 75 of the Consumer Credit Act means that any purchases over £100 and up to £30,000 are protected by your credit card for free. So if something goes wrong with the car then your credit card company might be able to help you.

A 0% interest on purchases credit card, is a great way to buy your car with no additional interest costs. The trick will be ensuring you manage your repayments on the card and either pay off the purchase amount before the end of the interest free period or move the balance onto another 0% card if you can (don’t forget this comes with balance transfer fees).

Like anything that sounds too easy, there’s usually a flaw. In this case, it’s the fact that some dealerships won’t take credit cards or if they do, they’ll charge you for using it (sometimes up to 3%).

Personal loan

If you’ve got a good credit history, a personal loan could be a good way of buying your car. The advantage of taking out a personal loan is that you’ll generally be able to spread the cost over a longer period of time – sometimes up to seven years. Unlike hire purchase, with a personal loan you’ll own the car and it’s yours to do what you like with.

Look at the annual percentage rates (APR) on personal loans compared to any car finance plans on offer from the dealership. The APR is the cost of interest and all other standard charges added together, considering the APR and the total amount payable will give you a clearer idea of how good a deal really is.

how to pay for a car

Car leasing

This might be for you if you just can’t be bothered with all the hassle of car stuff like warranties, maintenance and servicing. Think of it like renting a DVD for a really, really long time – you pay your rental fee (in the case of car leasing, it’ll be every month) and then at the end of the rental period, you give it back – this particular type of lease is known as a personal contract hire (PCH) agreement.

A PCH plan will usually mean you have to pay three months’ rental in advance. Some plans will also include a maintenance package meaning you won’t need to worry about servicing or even car tax. When you hand the car back in you’re under no obligation to take out another PCH plan with the same dealer, you can just walk away and find another deal elsewhere.

You can also get a personal contract purchase (PCP) agreement which gives you the option of buying the car at the end of the rental agreement. If that’s the case, you’ll be asked to make a ‘balloon’ payment. These agreements usually require you to pay a deposit and you may be able to get similar maintenance packages available with PCH plans.

The one good thing that car leasing packages do share is that you don’t really have to worry too much about the car depreciating in value (although this could be a negative if you decide you want to buy the car at the end of a PCP scheme).

What’s next?

Well, you know that once you’ve decided how you will fund your car and, you’re going to have to insure it before you can drive it away from the dealer – we know, it’s a chore and we can hear you groaning from here. But at Comparethemarket, we’re here to make life simple, just tell us what you decided to buy and a bit about yourself and we’ll search deals from over 100 insurance providers to find the best deal at the best price, just for you.

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