Today, a huge number of us – well over 80% of motorists – are turning to car finance to help manage the significant cost of buying a new car.
According to recent data, a record 1.5 million used cars were financed in 2023, and the average car loan in the UK was £12,482. The thing is, with car finance, what you will pay is not simply the price tag on the car. Exactly how much it will cost overall will depend on several factors, including the type of finance you choose, whether you buy a used or new car, the size of your deposit, the length of your agreement and, most importantly, on your credit health.
If you are considering taking out car finance, it’s important to understand all the costs involved and to budget accordingly.
Different kinds of car finance and what that means for your wallet
There are a number of different car finance products to choose from. It’s important to do your research into all the options to decide which might be best suited to you.
The most common include car loans, hire purchase (HP), personal contract purchase (PCP) and personal contract hire (PCH).
Hire purchase agreement example
Susie borrows £10,000 to buy a car. She has been offered a 17.1% APR.
She chooses a 60 month (5 year) loan term based on a cash price of £10,000 with no deposit
Susie’s monthly repayment figure would be £243.33
The total cost of Susie’s credit would be £4,699.80
Susie’s total amount payable would be £14,699.80 (including a £50 documentation fee and a £50 option-to-purchase fee)
PCP agreement example
Susie borrows £10,000 to buy a car. She has been offered a 17.1% APR.
She chooses a 60 month (5 year) loan term based on a cash price of £10,000 with no deposit and a final balloon payment of £3,000
Susie’s monthly repayment figure would be £217
The total cost of Susie’s credit would be £6,025.68
Susie’s total amount payable would be £13,025.68 (not including any balloon payment)
What are monthly repayments?
As part of your finance agreement you will need to make monthly payments for the duration of your contract. These payments contribute towards the cost of buying the car plus any interest. If you are able to pay an upfront deposit at the beginning of your agreement, then your monthly repayments will be smaller.
The longer the contract, the smaller the monthly repayments, but the greater the amount of interest paid and the higher the total cost. The shorter the contract, the higher the monthly repayments but the lower the overall cost. What works best for you will depend on your budget and how much you can realistically afford to pay every month.
What is total amount repayable?
The total amount payable on a car loan is the total amount due at the end of the loan term. This includes the loan itself, plus any interest and additional fees, including any option-to-purchase fees or balloon fees. It is an important figure to be aware of, as it will help you work out if a loan represents a good deal for you.
How to compare car finance deals
When shopping around for different car finance deals, always look at the annual percentage rate (APR) and the total amount payable. The lower the APR figure and the total amount payable, the better the deal you are likely to get.
Interest rates
Put simply, interest is the amount you pay to a lender in return for lending you money. (Or, if you have savings, it’s the return you earn on that investment.) It is usually expressed as an annual percentage rate (APR). Read more about interest rates and APR here.
The interest rate you will pay on a car finance term will depend on your credit score, the price of the car, and the type of finance that you choose. Your interest rate tells you how much more you will be paying to finance the car over and above the actual price of the car itself.
How is interest on car finance calculated?
An interest rate is the rate at which interest is charged – or paid – to you. When borrowing money, the interest you pay on a loan is usually a figure expressed as a percentage of the amount you have borrowed. So, for example, if a car loan charges 5% interest, that means that the interest you pay is equal to 5% of the amount you borrowed.
Loan terms
Normally, car finance agreements tend to run for between one and five years, but they can run for seven. You make fixed monthly payments for the duration of the loan until it is paid off. Bear in mind that the longer the loan, the higher the interest rate is likely to be and therefore the higher the cost of the loan. On the flip side, a longer loan term could help you to afford a more expensive car than you may have otherwise had access to.
The right loan term for you will depend on your budget. You will also need to consider running costs, maintenance, insurance, road tax, any mileage limits and balloon payments.
Here’s an overview of factors to think about when considering the costs of car finance:
What should I do if I want to exit my loan agreement early?
If you want to repay your agreement early you will need to request an early settlement figure. This is the amount you will need to pay to clear your finance in full. It will include money you owe on the car, including interest, minus any deposit and any repayments you have already made. You will also get a rebate of interest under your agreement for the remaining loan period. Find out more about early loan repayments.
Make sure you are fully aware of the terms and conditions in this area so you know what your obligations will be. Lenders will always charge a certain amount of interest to cover their own costs – if you think there’s a chance you may want to end your finance agreement early, be sure you can afford the cost of an early settlement before you agree to any car finance deal.
Using a free car finance calculator is a great way to get a feel for what your monthly payments could be, based on your preferred loan amount and your income. These days many lenders offer finance calculators; they don’t affect your credit rating and you aren’t committing to any kind of purchase. They can help you decide whether car finance might be a good option for you.
