Getting the best deal on a car loan

Last Modified 16th of February 2021

Buying a new car is a significant investment but often a necessary one: most of us need access to a vehicle for work and family life. If your car breaks down and you need to replace it at short notice, many people don’t have the funds to pay for a new model at short notice.

Should you need to purchase a new car and can’t pay for it outright, taking out a personal loan to spread the payments over a few months or years can be a welcome alternative. Some manufacturers and dealers offer finance packages to accompany the car you buy, or you could decide to borrow the money from a third party.

What is a car loan?

A car loan is basically a personal loan advertised for a specific purpose. There’s nothing different from a general purpose loan, although if it’s from a manufacturer they may throw in some ‘added extras’ such as cheap breakdown cover or extended warranties on parts to try and entice you to sign up. However, you can just as easily apply for a general personal loan for the purpose of purchasing a car.

Finding a car loan you can afford

When deciding on the best car loan, you need to establish how much you can afford to pay each month. The general rule of thumb with loans is that the lower the amount and the quicker you pay it off, the less interest you will pay on the sum you borrowed.

However, there is no point attempting to make huge monthly repayments that you can’t afford to meet – missed payments could result in penalty charges that end up costing you more in the long run.

Once you’ve worked out how much you can afford there are certain things you need to look for when deciding the best loan option. The first is the Annual Percentage Rate (APR) – this is the amount of interest you pay. The higher the APR, the more interest you will be charged on the amount you borrow.

You also need to look at whether your loan provider charges arrangement fees for setting up the loan and exit fees if you decide to pay off the final balance before it is due.

Also check out whether the lender tries to add on Payment Protection Insurance (PPI), which covers you in some situations where you’re unable to meet payments. If you decide you need this, you may be able to get it cheaper by purchasing it separately.

Types of car loan

There are four main types of car loan available:

Unsecured personal loan

This is a general loan from a bank or building society, either sold to you directly or through a finance package offered by the car manufacturer/dealer. The benefit of choosing this is that the monthly repayments are fixed, as is the length of time over which you must pay the money back. Some may offer flexibilities in payments such as a one month break each year. You can also sell the car on whilst you are still making repayments, although the debt will not be passed on to the new owner; you will have to continue to pay it back.

Secured loans

Secured loans work in the same manner as unsecured loans, except the money you take out is guaranteed against an asset such as your home. This means if you fail to meet your payments then your house could be repossessed. In general, it is more common to be offered an unsecured than secured loan for car purchases.

Personal Contract Purchase (PCP)

PCPs tend to be offered by car dealers or manufacturers. They work by paying a large deposit for the car and ‘leasing’ it from your dealer for a fixed term whilst you pay off more of the value in monthly amounts. When this deal comes to an end you have the option to make a final payment for full ownership of the car, hand the car back or trade the car in for a newer model, discounting the value of your current car from the price of your new purchase. Please note that you are not the official owner of the car until a final payment as been made and you may be set a maximum mileage allowance by your dealership.

Hire Purchase (HP)

Similarly to PCP, you make an initial deposit and then pay the rest of the balance in instalments. Deposits tend to be smaller than Personal Contract Purchase arrangements (or no deposit required at all) and you must finish paying for the car before selling it.