Car finance explained – six myths busted
The truth about car finance – we break down six myths and give you the facts
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Car finance doesn’t have to be confusing or hard to understand, but there are a lot of myths out there that can be misleading.
It’s a great way to spread the cost of a big purchase like a car and manage your money, but only if you get the right plan for you.
Luckily, there’s plenty of flexibility around the term length, deposit, and different types of finance depending on whether you want to own the car at the end or give it back.
We’ve put together this guide to dispel car finance myths to make sure you know what you’re signing up for.
From whether it’s bad for your credit score to the importance of interest, it’s all explained below.
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Common car finance myths:
There’s only one type of car finance
Car finance is only for new cars
You can’t end car finance early
Car finance is bad for your credit score
You should always choose the deal with the lowest interest
Equity isn’t important
Myth one: there’s only one type of car finance
You’re not alone if you don’t quite understand the types of car finance on offer. There are actually a few methods you can choose from, depending on your eligibility and what works best for you.
PCP car finance
Personal Contract Purchase (PCP) is when you pay a deposit, followed by monthly payments across an agreed term. At the end of the term, you can choose to pay a pre-agreed ‘balloon payment’ if you want to keep the car.
If you don’t want to keep the car, you can simply give it back.
PCP is different to other types of finance as you’re paying for the depreciation of the car across your finance contract, not the full value.
That last balloon payment covers the rest of the cost and makes you the official owner.
HP car finance
Hire Purchase (HP) car finance is probably what most people are familiar with.
You pay a deposit and split the remaining cost of the car across monthly payments for an agreed term.
There isn’t a balloon payment like with PCP, but there’s a smaller ‘option to purchase’ fee at the end of your contract.
Once you’ve paid this, the car is all yours.
Other ways to finance a car
Some people also choose a personal loan to purchase a car, usually from a bank.
One of the benefits of using a bank loan is that it isn’t secured against the car, so you can sell it before you’ve paid back what you owe if you need or want to.
There’s also car leasing, which is a bit like ‘renting’ a car over an agreed term. At the end of the lease, you give the car back to the leasing company.
If you’re old enough to remember Blockbuster, car leasing feels a bit like renting a DVD.
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Myth two: car finance is for new cars only
While plenty of people do get finance on brand new cars, you can get a used car on finance as well.
Financing both used and new cars is the same process, with one of the biggest differences being the greater depreciation of a brand-new car compared to a used one.
Used cars have already been through the initial big drop in value, so you don’t have to cover that and may get a better finance deal this way.
Myth three: you can’t end car finance early
You can end car finance early, but it isn’t as easy as just handing your car back. There are a few routes you can go down, depending on your circumstances.
Early repayment – you can end your car finance early by getting a settlement fee from your lender and paying it off to keep your car
Voluntary termination – you can voluntarily terminate your car finance and hand your car back if you’ve paid 50% of the Total Amount Payable
Voluntary surrender – you can return your car to the lender, they’ll sell it to cover some of the remaining balance, and you’ll continue to make payments for the amount left
Part exchange – you can pay off the settlement figure from your lender by part exchanging your car to end your current car finance agreement – at cinch, we can use your part exchange to settle your finance for you. Whether you can part-exchange a car on finance will depend on your equity and the value of your next vehicle
Myth four: car finance is bad for your credit score
So, this one is a bit of a ‘yes’ and ‘no’ situation – but it's mostly good news.
Applying for credit, such as car finance, will trigger a ‘hard credit check’ on your report. Getting a quote counts as a ‘soft credit search’, so doesn’t show on your file to lenders or impact your credit score. It will show up when you view your own report, under the ‘soft search’ section.
Too many hard credit checks in a short space of time can negatively affect your credit score as lenders might think it means you’re desperate for credit or struggling with money.
However, if you do take out car finance and always make your payments on time, this can improve your credit score. It shows lenders that you keep up your end of the bargain and manage your money well.
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Myth five: the deal with the lowest interest rate is the best option
In the case of car finance, interest is simply the amount you’re charged for borrowing money – it’s added as a percentage on top of the remaining finance amount every month.
Lower interest does mean you’re paying less for your car overall, but low interest car finance plans are often shorter and have bigger monthly payments. So, they’re not always affordable for everyone.
The key is to choose a car finance plan that you can afford. You may prefer to choose a longer term and slightly higher interest rate if a lower monthly payment is more important for your budget.
Remember, not paying your car finance on time can damage your credit score, so always choose an option that will be comfortable and attainable for you.
Myth six: equity isn’t important
It’s important to understand equity in car finance as this can impact you when it comes to selling or part exchanging your car.
Equity in car finance is the difference between the resale value of your car and the outstanding finance you have left to pay.
If you have positive equity when you come to the end of your agreement, the value of your car is higher than what you owe. And you might be able to use this equity to reduce the cost of your next car finance plan.
Negative equity means you owe more money than the car is now worth and is more common in longer car finance terms as the car depreciates more over time.
In both cases, your lender should be able to give you advice on your next steps.
Car finance myths explained
Phew – that was a lot to take in. The main thing to take away is that car finance isn’t as tricky to understand as you might think.
Now you have a better grasp of common myths, such as options for ending car finance early and how it affects your credit score, you’re better placed to choose a plan that suits you.
And that’s what it’s all about – making car finance decisions on what you need and what you can afford.
Don’t worry if you still have other questions, we have loads of other car finance guides covering all the jargon and the common topics that come up.
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