If you’ve decided to buy a new car then there are many different types of car finance deals to achieve this. However, understanding how car finance works and all the different types can be tricky for some.

Here we’ll explain what we mean by finance when it comes to buying a car. We’ll also go over the different approaches currently available.

The meaning of car finance

When deciding to buy a new car, there are several different ways to approach the payment.

How you approach this depends of course on the price of the car you want to buy, as well as your savings. You could choose to simply put down a large deposit and take an unsecured loan from the bank to cover the rest. You may also instead take a secured loan from the bank or remortgage to free up funds.

Alternatively though, you can establish a way to spread out payments for the car over a number of years. This is where the car finance plans step in.

The car finance plans essentially fall under two main types; they are called hire purchase and Personal Contract Purchase.

Hire purchase

Hire purchase (HP) is the simplest car finance model. Here you just agree to pay the entire value of the car over a fixed contract term, usually 3 to 5 years.

While monthly payments can be high, it is a straightforward process and once you complete these payments the car is yours.

Bear in mind that until all of the monthly payments are fully made, the provider of the car still owns it. The provider can claim back a car any time if repayments are not made. This is unless over a third of the value of the car has been paid off. In this case the provider would have to take you to court to recover the car.

Personal Contract Purchase

Personal Contract Purchase (PCP) is considerably more complex than a hire purchase. Even so, this type of car finance has grown rapidly in popularity over the past five years. Most manufacturers selling cars in the UK now offer PCP plans under their own distinct product names.

You can read our guide to how PCP works for a more detailed breakdown. For a briefer summary, however, PCP allows you to purchase a car with a deposit against it, and then make monthly payments to the dealership/finance provider.

Before taking out a PCP plan, you will be given an estimation of the Minimum Guaranteed Future Value (MGFV) of the car you’re acquiring. This value is the final payment made at the end of the contract, only if you decide to keep the car for yourself.

Monthly payments on a PCP plan are lower compared to hire purchase agreements and they offer the flexibility of not having to pay the entire cost of the car.