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Car Finance – the personal contract plan (PCP) to buy a car

According to today’s Irish Times, it’s estimated that about 30% of all new cars are financed by a PCP Contract. Amazingly, this whole area is unregulated so buyers need to be very wary.

Many car dealers are now offering finance in the form of a Personal Contract Plan (PCP) to consumers when they are buying a car. PCPs can appear very attractive because of the low monthly repayments and the convenience of being able to buy your car and sort out your finance in the same place. However, it is important to understand how these products work before you sign a PCP contract.

How does a PCP work?
A PCP is a type of hire purchase contract. You don’t own the car until you have made the final payment. With a PCP, payment is broken down into three parts:

The deposit – the deposit is typically between 10% and 30% of the value of the car, depending on the finance provider. Your deposit can be paid in cash or if you already own a car, you can trade this in for part or all of the deposit, depending on its value.

Monthly repayments – PCP contracts are usually made for terms of at least three to five years. PCPs generally have low monthly repayments, which can make them seem more affordable compared to other forms of finance.

Guaranteed Minimum Future Value (GMFV) – a large, final payment, is how much it will cost you to own the car at the end of the contract. It takes into account such things as, the car you are buying, length of the contract, the condition of the car at the end of the contract and your annual mileage. This final payment is set at the beginning of the contract, based on the finance company’s estimate of the future value of the car. If you are entering into another PCP, the GMFV is subject to you meeting all the terms and conditions, including any mileage restrictions, you agreed at the start.

When your contract ends

At the end of the PCP contract, there are a number of options:

Pay the GMFV, to own the car. There may be other fees associated with buying the car for example acceptance fees or completion fees, which should be outlined in your PCP contract. You could also refinance the GMFV by taking out a new finance contract as the GMFV can be a large sum of money. This would meant you are entering into another financial contract.

Hand the car back. Be aware that if you do decide to hand the car back, while you generally don’t have to pay the dealer anything, you might end up having to pay a penalty if you have not met all the terms and conditions, for example, if you have exceeded any mileage restrictions agreed at the start of the contract or if there is excessive ‘wear and tear’ on the car. You also will no longer have the car.

Enter into another PCP contract to buy a new car. It is important to be aware that the deposit you put down for the first car will not be given back to you. If the market value of the car from your first/previous PCP contract is greater than the GMFV, then you may have equity to put towards a deposit on the new car. However this will depend on the market value of the car at the time so you may need to pay a new cash deposit, depending on the difference between the GMFV on the first car and its market value at the end of the contract. You should check the contract or ask the dealer for details on what happens if you decide to enter into another PCP contract in the future.

Comparing a PCP with a personal loan
The main difference between a PCP and a personal loan is that with a personal loan you borrow the money, pay for your car, and own it immediately. With a PCP contract you don’t own the car, you are essentially hiring it for an agreed period of time, typically three to five years. You only own it if you pay the GMFV. This is important because if you were to run into financial difficulty during the term of your contract you would need permission from the finance company to sell the car to pay off your debt, as they are the legal owner of the car.

How flexible is a PCP?
These contracts are among the least flexible forms of finance. Because the repayments are fixed for the term of the contract, you usually cannot increase your repayments each month if you wish to do so. If you want to extend the term, you may be charged a rescheduling fee.

What to watch out for
Before you sign up to a PCP make sure you know who is providing you with the finance, that you fully understand the terms and conditions attached and you know what other things you need to look out for such as:

Mileage: At the outset you agree the number of kilometres you are going to clock up over the period of the contract. If you keep to this, the car will have a GMFV at the end of the contract. If you exceed the agreed annual mileage you may find that you owe more on the final payment than you think – even if you were to hand the car back it would cost you money. This is often charged at a set fee per kilometre over the agreed limit.

Difficulty making repayments: You may be allowed to sell the car to clear the debt but you will need to get permission from the finance company to do this. Hire purchase contracts, which include PCP, allow you to end your contract and give back the car once you have paid half the hire purchase price – this is called the half rule. Because a lot of the cost of the car is deferred to the end with PCP, you may be close to the end of the contract by the time you reach the halfway point but ending your contract in this way may be an option.

Small print: At the beginning of the contract you will agree to a number of different terms and conditions. For instance, the cap on the number of miles/kilometres you are allowed to clock up over the period of the contract. You may also be asked to commit to certain car servicing requirements. Always read the small print before you sign up.

Finance options: When comparing finance options, take the time to compare the total amount payable on a personal loan (cost of credit) with the PCP cost (the deposit, plus monthly repayments and final payment). Use our personal loan cost comparison to help you. Make sure you also compare the terms and conditions of each option.

Fees and charges: Always ask about any additional fees and charges. You are entitled to a list of all additional charges and fees, so ask the garage for this before you sign up to any contract. For instance, ask if there is any documentation fee for setting up the contract, missed repayments fees or repossession charges.

How is interest charged?
If interest is charged, the rate on PCPs will vary depending on the finance company and the car you are financing. Interest is calculated at a fixed rate on the total amount you borrow for each year of the contract. If you pay off the contract earlier than planned, this will often work out more expensive than if you had taken out a variable rate personal loan. Also, the deposit you pay at the beginning of the contract will have an impact on the amount of interest you pay.

Can your car be repossessed?

With a PCP, your car can be repossessed if the terms of the contract are broken, for example, by missing repayments. If you have paid less than one-third of the purchase price, the car finance company can take back your car without taking legal action against you. If you have paid more than one-third of the purchase price, a lender cannot repossess the car without taking legal action. In addition, the car cannot be repossessed from your home, regardless of how much money you’ve paid back.

If your car is repossessed, the finance company will generally sell the car and the money goes towards the outstanding debt, but you will still have to make repayments until the entire debt is paid off.

PCP and your credit record
As with other types of credit, when you take out a hire purchase contract, your lender will send details of the repayments you make to a credit-reference agency, such as the Irish Credit Bureau (ICB). Find out more about what information is shown in your credit history.

As always, it’s Caveat Emptor !!