How should I pay for a car? From car loans and finance to leasing

How to pay for a car at a glance

Here’s a brief overview of different ways to pay for a car and how each option compares. The focus here is on borrowing, leasing and financing a car rather than saving for one, which we’ve covered in a separate article.

Each option here spreads the cost in a different way. The main differences come down to ownership; how much you pay upfront and how flexible the agreement is.

What is a personal loan for a car?

A personal loan is money you borrow from a bank or lender, which you can use to fund buying a car. With options like a Post Office car loan, you receive the money upfront and then repay it back in fixed monthly amounts over an agreed term.

This means:

• You own the car from day one
• You can buy from a car dealership or a private seller giving you more choice
• Your repayments stay the same each month
• You can sell the car at any time as the loan isn’t tied to it

Remember if you do decide to sell the car, you still need to keep up the repayments for the personal loan you took out for the car.

Find out more about car loans

What is car finance?

Car finance is arranged through the car dealership where you’re buying the car or a recommended finance provider they introduce you to.

With car finance:

• You don’t usually own the car at the start
• The agreement is linked to the car you’re buying
• Whether you ultimately own the car depends on the type of agreement

What is car leasing?

If you take out a car lease, you commit to a long-term rental agreement. This lets you drive a new car for a specific amount of time. Leasing may suit you if you like changing cars every few years and having the latest model.

With leasing:

• You pay a fixed amount each month to use the car
• You can drive a brand-new car
• You may get maintenance included in the agreement
• You must return the car at the end of the leasing agreement

What is hire purchase?

Hire purchase is a popular finance option that allows you to buy a car over time by paying in monthly instalments.

With hire purchase:

• You pay an initial deposit at the start
• You make fixed monthly payments
• You own the car at the end after all payments are made

What is personal contract purchase (PCP)?

Personal contract purchase works in a similar way to hire purchase. You borrow money to buy the car and pay back in monthly instalments.

There’s one difference, though. Unlike hire purchase, you pay off the amount the finance lender predicts the car will lose in value (depreciate) over the length of the contract. This is known as minimum guaranteed future value (MGFV).

With PCP:

• You pay an initial deposit at the start
• The monthly payments may be lower than on a hire purchase 

You have a few options at the end of agreement, including:

• Making a final payment to own the car
• Returning the car
• Starting a new agreement for another new car

Pros and cons of each option to pay for a car

Make sure you know the pros and cons of each option to pay for a car before you decide which route you’ll take.

Personal loan

Pros

• You own the car from the day one, paying for it outright with the loan money. Unlike hire purchase or PCP, where ownership isn’t transferred until the final payment
• More choice on where to buy like car dealerships, online listings and private sellers
• More freedom to sell or change the car as your loan isn’t linked directly to the car
• No upfront deposit needed and the money you’re borrowing is often deposited in your account within a few days

Cons

• Typically, interest rates may be higher than some car dealership finance options, depending on your personal situation
• Interest charges can increase what you overall pay for the car
• You’re unlikely to get the full value for the car if you sell it later, as its value depreciates over time. It’s important to keep this in mind when calculating the total cost of the loan

Car finance

Pros

• Spread the cost through dealership car finance arrangement without needing a big lump sum
• Different agreement types available, including the length of the finance term
• Some car dealerships provide exclusive offers along with their car finance
• Access to a better choice of cars, often with full-service histories

Cons

• Ownership can be subject to the car dealership’s terms
• A deposit’s often required at the start
• Mileage restrictions can apply

Car leasing

Pros

• Access to a broad selection of cars and the latest models with newer technology
• You have the choice to upgrade your car
• The monthly payments are predictable
• Optional maintenance packages to cover servicing and repairs

Cons

• You don’t own the car at the end of the lease
• Typically includes annual mileage limits, with penalties if the limit is broken
• Extra fees for excessive wear and tear, scratches and worn tyres upon return
• Can require higher insurance coverage

Hire purchase

Pros

• Access to an extensive selection of cars and new models
• Consistent monthly repayments for budgeting
• No mileage restrictions, perfect if you drive frequently and long distances
• You own the car at the end of hire purchase

Cons

• Higher monthly repayments
• The initial deposit can be higher
• Car maintenance costs
• Once agreed, hire purchase contracts can be hard to adjust or change

Personal contract purchase (PCP)

Pros

• Access to a wide choice of cars and newer brands
• Predictable and smaller monthly repayments compared to hire purchase
• More options at the end. These include buying the car with a balloon payment, refinancing the balloon payment, returning the car or starting a new PCP agreement for a different car

Cons

• You don’t own the car until the end of the agreement
• Mileage limits can be restrictive if you need the car for long distances
• Charges may apply if you go over the mileage limit or return the car in poor condition
• The balloon payment to buy the car can be expensive at the end

Things to check before you make the final decision

Before choosing what type of finance option to commit to for buying a new car, taking these things into consideration can help you make the right decision for your circumstances:

• Your budget: Be realistic and make sure you can afford the repayments. Don’t leave yourself short with your monthly budget and account for upcoming expenses that might affect your repayments you’ll have to make
• Total cost: Don’t forget to look at what you’ll pay overall including interest, APR and any additional purchase fees
• Credit score: Whatever finance option you choose, your credit score can affect what you are offered
• Future plans: Think about any upcoming changes in your sources of income, bills or future milestones that might put more pressure on your repayments

Remember checking your eligibility before applying can also help you understand what options are available.