The choices in car finance agreements is growing. Twenty years ago you could just expect a simple Hire Purchase agreement from a car dealer, and that was it. Contract Hire, Lease Hire, Lease Purchase, Personal Contract Purchase and Personal Loan are all examples of the various ways you can look to finance your vehicle purchase.
Naturally it begs the question, ‘Which is best?’, an whilst we cannot answer that question for you, we can look at some of the aspects of each type you may wish to consider.
Which Car Finance Agreement?
Lets look at the choices in general:
1 Hire Purchase : This has been the mainstay of the motor dealer finance options for many years. This agreement is a style of car finance that is tied to the vehicle, and you simply make payments over a set period of months, at a fixed rate of interest, and at the end of the agreement the vehicle is yours.
Other features of this may be an ‘arrangement fee’ or ‘administration fee’, typically added to your first monthly instalment, and an ‘option to purchase fee’ typically added to your final instalment.
Advantages in Hire Purchase agreements as a choice of car finance include:
Ease of setting up – the motor dealer specialises in this form of car finance, all paperwork is generated under the same roof as you are buying the car from.
Termination Rights – it is unlikely that your motor dealer will tell you about this, but you have a legal right to ‘terminate’ the agreement once you have paid half the total amount payable under the loan. This means that if you do not want the vehicle any more, and perhaps it is not valued at more than you owe on the settlement, then you can simply hand back the keys to the finance company with no further penalty. There will be terms and conditions to cover this arrangement on your finance document.
Disadvantages are mainly in that the rate of interest (the APR) is normally higher than a typical direct lender personal loan, although quite a few subsidised car finance agreements are offered by manufacturers.
2 – Personal Contract Purchase . This is fast becoming the most popular form of car finance agreement offered by motor dealers. This type of car finance has advantages both for the customer and the dealer, and hence why it is becoming so popular.
In essence, it is another form of Hire Purchase car finance, with one very handy exception. Instead of having an extended period of a hire purchase agreement, you have a ‘break cluase’, called your Guaranteed Future Value (GFV). This mean that at this point of the agreement, instead of being faced with another 1 or 2 years of payments, you have 3 options to choose from:
– Buy the vehicle for the GFV – You know right from the beginning exactly the figure you must pay to own the vehicle at this point. Simply write a cheque and the vehicle is yours.
– Part Exchange the vehicle for a new one – this is just what the motor dealer will want you to do, and exactly what the PCP car finance agreement was designed for. If the vehicle is worth more than the GFV, then you automatically have a deposit, or equity to put down on your new car. Another advantage for the motor dealer with this method of car finance is that they know when your agreement ends, and when you have to make a decision. This can put them one step ahead of the other motor dealers.
– Hand the vehicle back to the finance company and walk away . As the finance company have guaranteed the GFV as the minimum future value of the vehicle, then if the vehicle is not worth this amount, you can simply choose to hand back the keys and walk away.
The main advantages of this type of car finance scheme is outlined in the options above, in that you have plenty of control and choices. However, be aware that during the agreement, before the safe harbor of the GFV, you are just as vulnerable to depreciation and the consequences of the vehicle being written off as anyone else.
Other advantages are that these types of car finance normally attract highly subsidised interest rates from the manufactures car finance providers. As previously mentioned, these forms of car finance work well for the motor dealers, and can provide them with a steady stream of 2 or 3 year old used car stock for the forecourts too.
3 Contract Hire – This is possibly the most popular form of car finance agreements for businesses up and down the land. This simply relies on a fixed ‘rental’ to be paid to the finance company, in exchange for the use of the vehicle.
One important aspect of this type of car finance is that the user is never the ‘owner’ of the vehicle, and never has the option to buy it. It simply is a rental agreement.
Advantages to business is that it certainly helps with accounting and cash flow to have this sort of arrangement. Again, the depreciation of the vehicle is not really an issue either, but there are one or two aspects you should be aware of, which we will talk about later.
Disadvantages of this type of car finance are possibly that as the vehicle never becomes the property of the user, it would not be a asset of the business. Having said that, any vehicle is likely to be a depreciating asset, some far worse than others.
4 Personal Loan . This type could possibly be excluded from the term ‘car finance’ , as strictly speaking you are not talking a car finance agreement tied to the vehicle in any way. This type of agreement is the sort you could arrange with a direct lender, such as a High Street bank. The advantage of a Personal Loan is that the interest rates are normally lower than a standard Hire Purchase agreement. The main disadvantage is that you do not have the protection of a GFV or termination rights under the terms of the loan.
Gap Insurance and Car Finance
With any form of car finance, if the vehicle is in an accident, or stolen, and is ‘written off’ by your motor insurer, then you could be left with a few issues.
You have no vehicle, you have a finance agreement to settle, and you have to replace the vehicle.
This is where a carefully considered Gap Insurance policy could help, but which one is best suited to which type of car finance agreement?
Lets start with the simplest type of car finance agreement. With a Contract Hire agreement, you never own the vehicle. However, if the vehicle is written off, then you would be left with two potential liabilities. Firstly, your leasing company will require the market value of the vehicle at the time it is written off. In addition to this, they will ask for a proportion of the monthly ‘rentals’ you would have paid to them.
This means that even as you have fully comprehensive motor insurance to cover the ‘market value’, you could still be left with a bill for the outstanding rentals. Unless of course you had taken a Contract Hire Gap Insurance policy.
A Contract Hire Gap Insurance policy will cover the outstanding rental demand from the leasing company (provided you have picked a sufficient ‘claim limit’.
If you have a Hire Purchase, Lease Purchase, Personal Contract Purchase, or indeed any other form of car finance agreement where you can own the vehicle, then you have a larger choice available.
A simple Finance Gap Insurance policy will cover between the vehicle market value, and the outstanding finance settlement on the agreement. In other words, if you owe more on the finance than the vehicle is worth, then a Finance Gap Insurance policy can cover this, again subject to the correct claim limit on the policy.
Return to Invoice, or RTI Gap Insurance, can protect you a little further. This style of Gap Insurance can protect between the vehicle market valuye and the original invoice price you paid. Therefore, you can clear your finance settlement, and whatever is left over is your equity for your replacement vehicle.
Vehicle Replacement Insurance, or VRI Gap Insurance is a relatively modern developement from Gap Insurance underwriters. However, it is offered to counteract one very likely outcome if your vehicle is written off. If you have to replace it, it is likely to cost you much more than it did originally.
Vehicle Replacement Insurance can cover between the vehicle market value and the cost of replacing the vehicle on a ‘like for like’ basis. So if it is for a brand new car, then the equivalent cost fo a brand new model.
This form of Gap Insurance is particularly helpful if you are looking to cover over an extended period, or if you have got such a level of discount this time, it is unlikely to be repeated if you had to replace the vehicle.
If you have chosen a Personal Loan as your form of ‘car finance’ then in the sense of which Gap Insurance styles may be open to you, then you could treat the purchase as a ‘cash’ purchase. This is because the car finance you have chosen is not tied to the vehicle in any way.
Therefore your choice of gap protection for your car finance on Personal Loan would be between Return to Invoice or Vehicle Replacement Insurance.
So there you have it, our simple rundown on the forms of car finance, and your choices in terms of Gap Insurance for each. We hope that car finance may be a little clearer for you now!