Car Finance: What are the Different Types of Options?

When it comes to purchasing a car, the outright cash purchase is merely the tip of the iceberg in terms of available finance options. In today’s UK market, how you buy the car is just as important as the car itself. In this guide, we’ll explore the most common car finance options to help you drive away with confidence.

Not Sure What Finance is Right for You?

Here is the full sheet to analyse for your better understanding:

Finance Type	Best For	Do you own the car?	Mileage Limits?
Hire Purchase (HP)	Keepers. People who want to own the car outright eventually.	Yes (after final payment)	No
PCP	Changers. Drivers who want lower monthly bills and a new car every 3 years.	Optional (Balloon payment)	Yes
Leasing (PCH)	Users. You want a brand new car with zero hassle and no resale risk.	No (Rental only)	Yes
Personal Loan	Cash Buyers. You want total freedom to sell or modify the car anytime.	Yes (Immediately)	No

 

4 Basic Types of Car Finance

1. Hire Purchase (HP)

Hire Purchase is a popular method of financing a car in the UK, where you pay off the value of the car in monthly instalments over a fixed term. It is like a mortgage on a house.

This option is essentially a hire agreement until the last payment is made, at which point ownership of the vehicle is transferred to you.

The process is quite straightforward. You typically pay a deposit, usually around 10% of the car’s value, and then the remaining balance, plus interest, is divided over a term agreed upon by you and the lender, generally between 12 to 60 months.

How it works: You pay a deposit (usually 10% or your part-exchange car), and the rest of the balance + interest is split equally over the term (1 to 5 years). Once you pay the final instalment (plus a tiny “option to purchase” fee, usually around £10), the car is 100% yours.

Pros:

• Fixed interest rates and monthly payments.
• Flexible term lengths.
• No mileage restrictions.
• You will own the car outright after the final payment.

Cons:

• Monthly payments can be higher than other options, such as Personal Contract Purchase (PCP).
• The car is at risk of repossession if you fail to keep up with payments.
• You don’t own the car until the final payment is made.

Hire Purchase is considered suitable for individuals who prefer ownership but want to spread the cost of their purchase over time. It is less suited for those who enjoy switching cars frequently or who are unsure of their long-term vehicle needs.

2. Personal Contract Purchase (PCP)

PCP is currently the most popular way to finance a used or new car in the UK. Why? Because it makes newer, more expensive cars affordable by lowering your monthly bill. This gives us a solid reason why we should buy a car on finance. 

How it works: Instead of paying for the whole car, you only pay for the depreciation (the value the car loses while you drive it).

1. Deposit: You pay an upfront amount.
2. Monthly Payments: These are low because they don’t cover the full car value.
3. The End: When the contract ends, you have a “Balloon Payment” (Guaranteed Minimum Future Value).

You have three choices at the end:

1. Swap it: Trade the car in for a new one. If the car is worth more than the balloon payment, you use that equity as a deposit for your next car.
2. Keep it: Pay the balloon payment (refinance it or pay cash) and keep the car.
3. Return it: Hand the keys back and walk away.

Pros:

• Lower monthly payments compared to HP, as you’re only covering the car’s depreciation.
• Flexibility at the end of the agreement, with the choice to buy, return, or part-exchange the car.
• The option to drive a new or more expensive car more often.

Cons:

• If you exceed the agreed mileage, you’ll be charged for every extra mile.
• You may face charges for any damage beyond normal wear and tear.
• You don’t own the car during the finance term and will have to pay the GFV to own it at the end.

Personal Contract Purchase is ideal for individuals who like to change cars regularly and desire lower monthly payments. It’s less appropriate for those who prefer to own their cars outright from the start.

3. Leasing (Personal Contract Hire)

Leasing a car in the UK, also known as Personal Contract Hire (PCH). It is exactly like a long-term rental. This method is gaining popularity as it allows individuals to drive a new car without the financial burden of full ownership.

How it works: You pay an initial rental (usually 3, 6, or 9 months’ worth of payments upfront) and then a fixed monthly fee to drive a brand-new car. At the end of the 2, 3, or 4 years, the lease company collects the car.

Pros:

• Access to a premium vehicle like a Range Rover with a more affordable upfront cost.
• Fixed monthly payments for easy budgeting.
• Zero depreciation risk.
• No worries about the car’s depreciating value or selling it on.
• Routine maintenance and service can be included in the lease agreement.

Cons:

• There is no option to purchase the car at the end of the term.
• You must adhere to the agreed mileage limit or face excess mileage charges.
• You may incur charges for any damage that goes beyond the agreed wear and tear.

Leasing is ideal for those who enjoy driving the latest models every few years and appreciate fixed monthly costs with no hassle regarding the car’s future value. 

However, it’s less suited for those who prefer the idea of ownership or who drive considerably more miles than the usual contract allows.

4. Personal Loan

This is also called a bank loan, where you borrow a fixed amount of money over a set period, typically with a fixed interest rate, to purchase your vehicle.

For example, if you decide to buy a car priced at £15,000, you can take out a personal loan for that amount and then repay it over, say, 5 years.

Here’s how it works: After obtaining a personal loan from a bank, the borrowed amount is paid in a lump sum, which you can use to buy the car outright from the seller.

You’ll then make regular monthly repayments until the loan is paid off. Using the same £15,000 example, with a 7% interest rate over 5 years, your monthly payments would be approximately £297, and the total amount repaid would be roughly £17,820.

Pros:

• Immediate ownership of the car upon purchase.
• No mileage or customisation restrictions.
• Fixed interest rates and monthly payments.
• Options to shop around various lenders for the best rates.

Cons:

• Potentially higher monthly payments compared to PCP or leasing.
• Interest rates can be high if you have a poor credit rating.
• A longer loan term can substantially increase the total amount repaid.
• The car will depreciate, but you’ll still be paying off the full loan amount.

A personal loan is suitable for those who have a good credit score and desire immediate ownership. It’s ideal for buyers who intend to keep their car for a long time and can comfortably afford the monthly repayments. 

On the other hand, it’s less suited for those who aim for lower monthly costs or who like to change their vehicle frequently.

Other Types of Car Finance

1. 0% Finance

Yes, it is possible, but rare in the current economy. Usually, 0% deals are offered by manufacturers on brand new cars to clear stock. 

It is available in the UK for both new and used cars, offered by many manufacturers, like Skoda, Renault, Volvo and Mazda.

And also some of the dealerships, like Evans Halshaw and Carwow, offer 0% APR on used cars.

Here’s how it generally works: A car dealership or manufacturer may offer a 0% finance deal on certain models to encourage sales. You would typically need to pass a credit check and may be required to pay a deposit of around 30 to 50%. You then pay monthly instalments over the agreed finance term, which could be, for instance, 3 years.

Pros:

• No interest means lower overall costs compared to other financing options that include interest rates.
• More of your monthly payment goes toward the car’s principal rather than interest.
• It can make buying a new car more affordable in the short term.

Cons:

• 0% finance deals can be harder to qualify for because they often require an excellent credit rating.
• You usually need a hefty deposit (30-50%) and an excellent credit score.
• These deals may not be available on all cars or may only apply to certain models or stock that the dealer wants to shift.
• You might forego other discounts or promotions that cannot be combined with 0% finance offers.

0% finance is an excellent option for buyers who prefer new or nearly-new cars. It’s well-suited for those with a strong credit score who can qualify for these deals.

Conversely, it’s perhaps not the best choice for those seeking a used car or who may struggle with the strict credit requirements. 

Also Read: How to Remove Cat N From Car? Is That Even Possible?

2. 0% Purchase Credit Card

A 0% purchase credit card can be an innovative way to finance a car purchase without incurring interest for a set period. 

Here’s how it typically works: You apply and get approved for a 0% purchase credit card with a promotional offer lasting, for instance, up to 18 months. During this time, any purchases you make will not accrue interest. This can be particularly useful for financing part or all of a car purchase.

Pros:

• No interest accrues during the promotional period, allowing for interest-free financing of a vehicle.
• Flexibility to make larger purchases immediately and spread the cost over time.
• Making payments on time and in full can help improve your credit rating.

Cons:

• If the balance is not paid off during the promotional period, high interest rates typically apply thereafter.
• Requires disciplined budgeting to ensure the car is paid off before the promotional offer expires.
• Credit limits may not cover the full cost of the car, requiring additional financing methods.
• Not all applicants will qualify for a 0% purchase credit card, with good to excellent credit commonly required.

A 0% purchase credit card is a potential option for those with a strong credit score who are disciplined in their financial management and able to budget for the total car cost within the interest-free period.

It is less suitable for those who struggle with disciplined monthly repayments or who may not be able to repay the full amount before the end of the promotional period, potentially leading to sizable interest charges.

FAQs

Can You End Your Car Finance Agreement Early?

Yes, and you have legal rights protecting you. Under Section 99 of the Consumer Credit Act 1974, you have the right to Voluntary Termination (VT).

• The 50% Rule: If you have paid back at least 50% of the Total Amount Payable (including interest and fees), you can legally hand the car back to the finance company and walk away with nothing more to pay.
• Condition Matters: The car must be in reasonable condition (fair wear and tear). If it’s damaged, you will be billed for repairs.

What is a Car Refinance Loan?

Think of it as switching your mortgage, but for your car. Refinancing allows you to take out a new finance agreement to pay off your old one.

If your credit score has improved since you bought the car, you might get a lower interest rate (APR) and reduce your monthly payments.

However, many PCP drivers use refinancing to pay off their final “Balloon Payment” so they can keep the car instead of handing it back.

Can You Get Car Finance with Bad Credit?

Yes, absolutely. Many dealerships (including us) work with “subprime” lenders who look at your current affordability rather than just your past credit history. You will likely need a larger deposit and pay a higher interest rate than someone with a perfect score.

Moreover, paying your car finance on time every month is one of the fastest ways to rebuild your credit score for the future.

Can I Sell a Car with Outstanding Finance?

Yes, you can sell it. But you must settle the loan first by getting a settlement figure from the lender. The buyer can pay the lender directly, or they can pay it off with options for positive/negative equity handled separately. 

Through a dealer? Yes. They commonly handle settling the finances for you as part of the sale. But you must first get a settlement figure from your lender.

What is a car finance agreement?

It is simply a legally binding contract between you and a lender. It details how much you are borrowing, the interest rate (APR), your monthly payments, and who owns the car.

It is important to always read the “Terms of Withdrawal.” You usually have a 14-day “cooling-off period” where you can change your mind, cancel the finance, and pay for the car via other means without penalty.

Final Verdict

There is no single “best” option—only the best option for your lifestyle and budget. Whether you value the security of owning a vehicle long-term, the flexibility to upgrade to the latest. 

If you’re a “keeper” who wants to avoid mileage limits and eventually own the car outright, HP is perfect. If you’re a “swapper” looking for lower monthly payments and the option to drive a newer model, PCP offers that flexibility. 

Finally, if you’re a “modder” who wants total control and immediate ownership to customise or sell the car at any time, a personal loan provides the best option.