When it comes to buying a car, one of the best options is through car finance. Being able to spread the cost of the vehicle over a number of months means you don’t need as big a lump sum at the start, meaning you have more choice when it comes to the make and model you go for. It can be the difference between buying a car you want, and just buying a car you can afford.

However, if you have no experience with car finance, then it may be a bit daunting looking at the different options you have available. As an FCA approved car finance specialist, we work hard to ensure that all Creditplus customers have the information they need to make the right choice about their car finance package. And so we’ve put together this guide to explain to you the difference between the three main types of car finance products:

• Personal Contract Purchase (PCP)
• Personal Contract Hire (PCH)
• Hire Purchase (HP)

Personal Contract Purchase or PCP is one of the most popular car finance products on the market. The reason being the relatively lower monthly payments when compared to other car finance products. That’s because in a PCP agreement, you don’t actually pay for the full cost of the car. Instead, PCP works by paying off the car’s depreciation in value. What this means is that you end up paying for the car’s loss of value over the duration of the finance agreement.

In a PCP agreement, you don’t actually own the car. Instead, you are effectively borrowing the car for the length of the contract. At the end of the contract, you have three options (see below). So instead of paying for the full cost of the vehicle, you pay for the loss of value of the car over the finance agreement. Cars lose value over time, and so the lender is effectively lending you the car and charging you for that loss of value, as well as the APR that they charge on top of the agreement.

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At the end of PCP

When you reach the end of a PCP agreement, you have three options:

1. Return the car to the lender
2. Pay an optional balloon payment to own the car
3. Part exchange the car towards a new vehicle on a finance deal 

Let’s explain this in more detail. So, returning the car to the lender means you just hand over the car back to the dealer and they will then sell it on to a new customer. In every PCP agreement, you will be given a set of limits. These are usually annual mileage limits that restrict the amount of miles you can drive the car each year of the agreement. There are also condition requirements, and you may have to have your car serviced at specific mechanics or main agent garages.

The second is the balloon payment. This is the remaining cost of the car that has been unpaid during the agreement. This will be set at the start of the agreement and is based on the car’s “guaranteed future value”. You can pay this off to own the car you have been financing for the duration of the agreement.

The final option is to part exchange the car for a new finance agreement. That’s where the car you’ve been financed is used as part of the deposit on a new agreement. This is only possible if you have some equity in the car, so be careful to check the agreement if this is an option you are interested in.

Who is eligible?

Personal Contract Purchase, despite its popularity, is generally available to those with good or excellent credit ratings. You may be able to qualify for this type of product with an average or poor credit rating, but the rate of APR you are charged will be higher.

Pros and Cons of PCP

The biggest positive of PCP are the lower monthly repayments. Because you aren’t paying for the full price of the car, you will have a lower amount that you need to finance. This also means you could potentially go for a newer car than if you were going for a different type of agreement. And if you choose a car that doesn’t suffer from as much depreciation, you could find yourself a very nice deal.

Another advantage are the three options at the end of the agreement. This means you have a deal of flexibility that can be a real positive if your financial status changes during the finance package – either positively or negatively. You can stay on a PCP agreement with different cars over the years, so you can upgrade your vehicle regularly and take advantage of updates to safety technology and engine efficiency. And who wouldn’t like a fresh new car every few years?

Just be careful with the annual mileage limits and the condition requirements. You need to make sure that the mileage set is not going to restrict you from using the car. If you exceed the limits, you will end up being charged for every mile you exceed, so be careful.

Some people are also wary about investing a lot of money in a vehicle that you don’t own at the end of the agreement. While this may be something to consider, if you look at the agreement carefully and plan ahead, this will not be an issue.

Personal Contract Hire or PCH is a type of car leasing product that is often included in car finance packages. It is based on a type of contract hire product that was used by businesses to finance their company cars, but instead is designed for the individual.

PCH works with a low initial deposit – normally the cost of 6 or 9 months of payments – and allows you to drive a newer car without breaking your budget. The monthly payments are also fixed, so you don’t need to be watching the news to see what the Bank of England is doing with finance rates to work out your budget!

Another bonus is that, if you are self-employed or use the car regularly for work, PCH can be tax deductible as a business expense.

Most PCH contracts are for 1 to 4 years in length, meaning you can change the car regularly for a newer model. At the end of the agreement, you have no choice but to return the car to the lender.

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Who is eligible?

Like PCP, PCH is easiest to get if you have a good or excellent credit rating. If your credit rating is poor or bad, you are less likely to be approved as the finance providers may consider you to be too much of a risk. That means you may be limited in the choice of options you have available. Choose a finance provider that will compare a wide range of finance products from a wide panel of lenders who can find all the options you qualify for.

Pros and Cons of PCH

PCH is similar to PCP in a lot of ways, but because you have no options at the end of the agreement other than to return to the lender, you don’t have to worry as much about depreciation. Instead, you simply hand the car back and can apply for a new PCH package. This makes it slightly easier to just start a new agreement and go for your next car, rather than having to decide which of the three PCP options you need to go for.

PCH payments are fixed across the agreement, so they tend to be cheaper than those on a PCP deal. And many PCH deals come with a maintenance package, that will cover the cost of the car tax and any servicing across the agreement. That’s because the lender wants to protect their asset, and so will help you look after the car across the agreement.

Like PCP, PCH packages come with limitations like annual mileage limits and condition requirements, so that can limit how you use your car. You will need to check the agreement to see what the standards you have to follow are, otherwise your idea of “good condition” may be a lot different to what the lender has set in the agreement.

And, like in PCP, PCH gives you no option to own the car at the end of the agreement. So if you’ve fallen in love with it, you still have to say goodbye! But that also means you could potentially be investing a lot of money into something you are renting, which leaves you with no return from the amount you have put into the vehicle.

Hire Purchase or HP is a type of car finance agreement that is one of the most widely available products on the market. HP works by spreading the entire cost of the car and the finance package across the duration of the agreement. As the interest rate on this type of package is fixed, you know exactly how much the payments will be each month, making it ideal for those on a tight budget or who want to plan their finances in advance.

HP agreements are great for those who want to own the vehicle at the end of their agreement, so if you’ve found the ideal car for you and don’t think there’ll be any changes needed in the near future, you can work towards owning your ideal vehicle.

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Who is eligible?

Hire Purchase agreements is one of the packages that is available for most types of credit ratings. Whether you have a poor or excellent credit rating, you should be able to find a package that suits your circumstances. Be aware of the fixed interest rate on this type of package, as if you have been taking steps to improve your credit rating, you might not see the benefit of the work you’ve been doing. 

HP is ideal for those with a good deposit, as this will reduce the amount of interest you pay and further reduce the cost of the monthly finance payments.

Pros and Cons of HP

One of the biggest pros of HP is that you own the car at the end of the agreement. So if you’ve been paying monthly to use the car, you will end up having something to see for that investment at the end of the agreement.

Another big advantage is that you don’t have any restrictions on how you use the car. you can drive it as much as you like without worrying about annual mileage limits. And if the car gets a few dents or scratches to the paintwork, or your little ones turn the back of the car into a sticky mess, you don’t HAVE to get it repaired to a condition that satisfies a lender.

The downside is if you want to change your car often. Unlike in a PCP or PCH agreement, you will have to sell the car at the end of the agreement. This can be a hassle, and is nowhere near as easy as with the other types of product. You also might see the depreciation in action, as the amount you have paid for the car will likely be more than the value of the car at the end of the agreement, even if you’ve only finished paying for the car recently.

So which option is right for you?

The question you have to ask yourself is: do you want to own the car at the end of the agreement or not? If you do, then you should be looking at Hire Purchase first, then Personal Contract Purchase. If you think you want to change, then PCP or Personal Contract Hire is the one to consider.

All three types of product have their pros and cons. You will need to look at the amount of money you have available, what you will be using your car for, and whether you think your financial circumstances will change in the next few years. Each product can work for you providing you do your research.

We hope this guide has explained things a bit more clearly, so you can feel confident you have the right finance product to find you the perfect car.