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Best way to finance buying a car

Buying a car isn’t a simple decision. From buying it outright to using finance, there are many options. You also have to consider running costs. In could be the second most expensive thing you’ll buy – after your home. So it’s important to make sure you choose the best way to buy a car for you.

Buying a car with cash

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The cheapest and most simple way to buy a car is to fund all or part of it in cash.

If you’re able to pay the whole price in cash, you’ll own the car outright.

If you buy a car on a finance agreement such as personal contract purchase (PCP) or personal contract hire (PCH), the finance provider owns the car during the contract. This means you can’t sell the car and might lose it if you fall behind with your repayments.

Pros and cons

Pros
  • As you own the car outright, you can sell the car at any time if your circumstances change or you run into financial trouble. 

  • You won’t have to worry about monthly loan repayments, or the terms and conditions of your finance agreement. 

  • There will be no record of it on your credit report.

  • You won’t have to worry about owing more on a finance agreement than the car is worth. 

Cons
  • You might find your choice is more limited, and you might be tempted to compromise on the level of safety or reliability of the vehicle. 

  • You’ll need a substantial amount of money available straight away.

  • It won’t help improve your credit report by managing a loan properly. 

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If you decide to use cash:

  • make sure you have enough money to cover the running costs of the car, such as insurance, road tax and maintenance
  • even if you use money from your savings, you might be better paying for some of the car on your credit card so you benefit from credit card purchase protection. This means the card company is jointly liable with the retailer if something goes wrong. It’s best to pay the bill off in full the next month.

If you decide to finance the car:

  • using your savings to put down as big a deposit as possible will give you access to the best interest rates on any finance agreement.
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Credit scores and car finance

If you’re not paying with cash, you’ll be using car finance or credit to buy your car. If you’re using credit, you’ll get access to the best deals if you have a good credit score. 

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Be aware that just because your credit score is good and you’re allowed to borrow a larger amount, it doesn’t mean you’ll be able to afford it. You need to work out all your outgoings and be confident that you can make all the repayments for the full term of the credit deal.

If you get behind on your car payments, talk to your finance company or lender as soon as possible. You might be able to return the car or pay off the loan early.

Buying a car using a personal loan

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You can get a personal loan from a bank, building society or finance provider if your credit rating is good. You can spread the cost between one and seven years.

Make sure the loan isn’t secured against your home. Otherwise you’ll be putting your home at risk if you fail to keep up with repayments.

Shop around for the best interest rate by comparing the APR (or annual percentage rate, which includes other charges you have to pay on top of the interest).

Pros and cons

Pros
  • You own the car outright from the start of your loan, and can sell the car if needed.

  • Other than paying with cash, personal loans are probably the cheapest option in terms of the total cost. 

  • It can be arranged over the phone, online or face-to-face.

  • It covers the whole cost of the car (but it doesn’t have to).

  • You can get a competitive fixed interest rate if you shop around.

Cons
  • You might have to wait for the funds to be paid into your bank account, but some lenders make funds available almost immediately.

  • Other borrowing might be affected.

  • Monthly costs can be higher than with other options.

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Hire purchase (HP) to finance a new car

Hire purchase is a way of buying a car on finance, where the loan is secured against the car. You’ll need to pay a deposit of around 10%, then make fixed monthly payments over an agreed time period.

This means you don’t own it until the last payment has been made. So if you miss payments, you could lose the car.

Hire purchase agreements are usually arranged by the car dealer. This means they’re convenient to arrange and can be very competitive for new cars, but less so for used ones.

Rates are best for new cars, so check what you’ll be paying if you’re buying a used car.

When you’ve paid half the cost of the car, you might be able to return it and not have to make any more payments – check your contract to see if this applies to you. The car will need to be in good condition too, or you might be charged for repair costs.

When you’ve paid a third of the total amount you owe, your lender can’t repossess your vehicle without a court order.

Pros and cons

Pros
  • Low deposit (usually 10%).

  • Flexible repayment terms (from 12 to 60 months).

  • Competitive fixed interest rates.

Cons
  • You don’t own the car until the final payment.

  • Tends to be more expensive for short-term agreements.

Personal contract purchase (PCP)

This type of car finance deal is similar to a hire purchase agreement, but you usually make lower monthly payments. Keep in mind though that the total amount of money you’ll pay back is often higher.

Instead of getting a loan for the full cost of the car, you get a loan for the difference between its price brand new and the predicted value of the car at the end of the hire agreement. This is based on a forecast of annual mileage over the term of the agreement.

At the end of the term, you can:

  • Return the car to the dealer and pay any charges that you might have incurred (for example, through excessive wear and tear or going over the milage).
  • Use the resale value towards buying a new car.
  • Pay the resale value and keep it. This is also known as a balloon payment. This is based on what the dealer thinks the car is worth now – Guaranteed Minimum Future Value (GMFV) – and can range from a few hundred to a few thousand pounds. It will be a larger payment than your monthly payment. If you haven’t got this money saved, you might have to take out another loan to pay it off.

To end the deal early or cancel it, you must have paid half the value of the vehicle. If you haven’t, you’ll need to pay the difference before you can get out of the contract. The car will need to be in good condition too, or you might be charged for repair costs.

Pros and cons

Pros
  • Lower monthly payments.

  • Low deposit (usually 10%).

  • Flexible repayment terms (from 12 to 48 months).

  • A choice of what to do at the end of the repayment term.

Cons
  • Exceeding the mileage will usually result in additional charges.

  • Excessive wear and tear and damage, such as scratches, can mean you’ll pay extra fees.

  • The total amount you pay might be more than with hire purchase.

  • You have to pay the outstanding balance to keep the car.

  • If you plan to take your car abroad, check your PCP contract as some companies will impose a limit on the number of days your car can be out of the country and you might need to request permission before taking it abroad.

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Leasing – personal contract hire (PCH)

You pay the dealer a fixed monthly amount for the use of a car, with servicing and maintenance included. This is providing the mileage doesn’t exceed a specified limit.

At the end of the agreement, you hand the car back. It never belongs to you.

Leasing (PCH) usually costs more per month than PCP. However, you’ll have greater flexibility to switch provider and the total cost can work out cheaper overall as the payment includes servicing and maintenance costs.

Pros
  • Motoring at a fixed monthly cost.

  • Includes servicing and maintenance costs.

  • No worries about the car depreciating in value.

  • Flexible payment terms (from 12 to 36 months).

Cons
  • Monthly costs are higher because servicing and maintenance are included.

  • Deposit is usually three months’ rental.

  • Possible extra costs if you exceed the mileage limit or want to end the agreement early.

  • The car is never yours.

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Using a credit card to buy a car

Using a credit card to pay all, or part, of your car’s purchase price will give you extra protection if something goes wrong. This is providing you meet your monthly card payments. If the car costs over £100 and up to £30,000, you’re covered by ‘section 75’ of the Consumer Credit Act.

However, some dealers charge a card handling fee – sometimes as much as 3%. And some dealers might not accept credit cards at all.

Be aware that interest rates on credit cards can be higher than other types of finance. A 0% deal is usually best, as you can pay off the loan over several months without having to pay interest. If you haven’t got a 0% deal, pay the balance off straight away to avoid interest.

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Using peer-to-peer loans to fund a new car

Peer-to-peer loans, or social lending, allow people to borrow or lend from each other without banks or building societies being involved. You can find peer-to-peer loans on websites such as Zopa.

You’ll still need a good credit score to get the best rate, and missing payments will also affect your credit rating. Interest rates will vary depending on your credit score too, so you might find peer-to-peer loans offer better interest rates than banks, but this isn’t always the case.

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Getting a car on finance – things to look out for

When you compare car finance deals, there are a few important things to do before making a final choice.

  • Make sure you can afford the monthly payment, not just now but for the whole term of the loan. Also think about how you’ll pay for running costs, such as insurance, road tax and maintenance. 
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  • Make sure you understand the terms of agreement such as mile limits, balloon payments and paying for maintenance. If you don’t understand it, it might not be the right finance solution for you. Your finance provide will be happy to answer any questions you have about it.
  • Ask the firm offering you finance what happens if you struggle to pay one month, and what options would you have if you couldn’t afford to pay.

To understand your options for getting out of your car finance arrangement early, see our guide Cutting car finance costs

  • Compare the total cost of borrowing, including all charges over the full term of the loan.
  • Beware of early repayment or other charges, such as charges for exceeding the forecast mileage in personal contract purchase plans and personal leasing.
  • Compare interest rates by looking at the APR (annual percentage rate), which includes all the charges you have to pay. Remember a bigger deposit will usually mean a lower interest rate. You should also check if the interest rate is fixed or variable, so you’re aware of when payments might go up.
  • Think carefully before buying payment protection insurance (PPI) or other insurance, such as GAP cover, which can be expensive and might give limited cover. GAP cover is designed to pay out if your car is a total write-off and the outstanding finance is more than the value of your car.

Find out more about GAP cover and if it’s right for you in our guide Do you need GAP insurance?

How to shop around for the best car finance deals

The best way to shop around for a good deal is to use an online comparison site.

Here are some of the sites you might want to consider.

Gocompare.com

Money Saving Expert

uSwitch

More information for financing a car

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impartial help for all your money and pension choices.
Whatever your circumstances or plans, move forward with MoneyHelper.

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MoneyHelper is the new, easy way to get clear, free,
impartial help for all your money and pension choices.
Whatever your circumstances or plans, move forward with MoneyHelper.

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