Getting a new car is a momentous occasion: Is the family expanding, so you’re in need of a commodious seven-seater SUV? Perhaps you’ve landed a new job, and require an opulent mile-muncher to chariot you to and from your new workplace? Or maybe you’ve saved up a large amount of money, and want to showcase your burgeoning net worth by investing in a sprightly roadster?
Whatever the reason, statistics show that over 1.6 million UK-residents bought a new car in 2021. Around 82 percent of all new cars you see on the road have been purchased using a structured payment plan called ‘PCP’ according to Business Insider - an option that has seen a huge rise in popularity over the last decade.
Many people still don’t know the benefits of using PCP, and automatically get thrown off the idea as soon as they realise a lump sum is required to buy it outright at the end of the contract. This Karfu guide will explain what PCP is, how it works, and everything else you need to know about the subject.
What does PCP mean?
PCP (Personal Contract Purchase) is a financing option to help you buy a new car. Its distinguishing features are that it could offer smaller monthly payments when compared to a personal loan or a hire purchase agreement, and also offers the flexibility to change cars at the end of the agreeable tenancy period. So, it is a particularly useful choice in principle for those that prefer to switch models or manufacturers every few years.
Agreeing to a PCP finance deal also means that you have the option to take full ownership of the car at the end of the term, but this isn’t mandatory. The whole point of PCP is to allow you to finance a new car in affordable amounts. However, you may be forced to return the car if you fail to maintain the monthly payments, and it will come with a mileage cap attached to it - the amount of which you should carefully consider before putting pen to paper.
What does a PCP finance structure consist of?
Essentially, there are three main components to a PCP finance timeline: Deposit, Loan Amount and Final Payment. Let’s look at each one in a little more detail.
Before you can agree to a PCP lease, you’ll need to pay a deposit - typically around ten percent of the car’s value - to secure your deal. So, regardless of how your PCP will be structured, you’ll need to have a lump sum readily available. It’s also worth remembering that the larger the deposit you put down, the less you’ll have to borrow.
Certain manufacturers also offer a contribution scheme towards the cost of the deposit, but this is usually done through a package they put together on their own terms. If you agree to their terms, you could benefit from a contribution of between £500 and £2,000, or sometimes even more if the deal is for a new car.
The Loan Amount is the amount of money that you’ll borrow across your agreed period, and then pay back in smaller amounts each month. This amount also takes depreciation into account, and also adds on an Annual Percentage Rate (APR) interest fee.
This is where you may need to do some research, since APR rates can vary substantially. Some dealerships may also offer zero percent interest deals, which is something that might be done because they charge a higher deposit or final payment amount. Be wary of the APR agreement rate before committing to a deal.
To actually borrow the Loan Amount, you’ll need to agree a payment plan with either an online mediator or loan company, or you can choose a finance group that already works with your chosen dealer.
The finance broker then buys the car outright from the manufacturer or dealer, and you’ll then begin to make payments to them. You will be the registered keeper during this time. The Loan Amount contact length is usually set to either 24 or 36 months, and once this agreed period is reached, you’ll need to discuss the concluding stage.
The Final Payment, otherwise known as the ‘balloon payment’, is the last big transaction that you make if you want to secure the car outright upon PCP deal expiration. The balloon payment can also be called the ‘GMFV’ (guaranteed minimum future value). This is an estimate from the finance broker as to what the value of the car will be upon the expiration of your contract.
It is agreed at the start of the deal, and you may get some equity to reinvest into a new PCP agreement if the car is worth more than the pre-agreed GMFV value at the end of the term. It is worth knowing that this is relatively uncommon now, as finance companies have become more accurate with their GMFV estimations since the creation of PCP.
Finance companies could also put a car/deal through their own independent risk assessments, which is why the final payment can vary from company to company.
It’s also possible to lose money here if you decide to buy the car at the end of the term, since it may have depreciated more than the GMFV agreed at the start of the deal. It’s worth noting that attempting to end your PCP agreement prematurely may result in a penalty, which is a separate topic in itself.
So, with that in mind, these are the three routes that you can take upon the expiration of your deal:
1. Pay off the balloon sum and take ownership of the car outright. This will be the agreed amount negotiated at the start of the PCP deal, and won’t include any specific interest on top of that particular amount. It may, however, be accompanied by an associated admin cost. This is charged by most finance companies, and covers the cost to transfer the car to your name. You can expect this to cost around £100, but can be subject to higher amounts, depending on the company.
2. Swap your expiring PCP deal car for a new one. This can be a slightly confusing option, because it is further divided into two subcategories:
Begin a new deal with the same finance broker.
In this scenario, you’d be able to trade in your car to the same dealership to take out a new deal. If the car is worth more than the GMFV value, you could use the difference as a deposit for a new one. This is the more common of the two options.
Begin a new deal with a different finance broker.
If your car is from the subsidiary of a brand e.g. Skoda Financial Services, you should be able to swap your car for a different model in its range. Otherwise, you can buy the car outright and trade it elsewhere, or you can return the car and switch to a new PCP deal with another dealership.
3. Return the car and search for a new deal (or form of mobility). This decision may hinge largely on the agreed GMFV value, since it was a ‘predicted’ amount. If the GMFV value is lower than expected, it may be wiser to return the car to the dealer and explore new options. This also means the provider deals with the loss in GMFV value, and not you.
If the GMFV value is higher than expected, you can buy the car and sell it yourself, or agree with the finance company to sell it and then pay off the remaining GMFV amount. You will not be able to take any excess GMFV value gained in cash, sadly.
Alternatively, if you want to prematurely end your PCP deal, you’ll need to pay the outstanding amount owed before you are released from the agreement. The amount will depend on what the current value of the car is, and how much you still need to pay.
For instance, if you’re one year into a three year deal on a Nissan Leaf and the car has a value of £20,000, but the agreed balloon payment was £25,000, you’d need to pay the remaining £5,000 before you can end the agreement.
Can you give me an example of a PCP deal?
Just to simplify the above for you, let us outline the structure of a typical PCP deal:
1. You’ve found a car that you like and it has a value of £15,000 - you visit the dealer to begin negotiations
2. Both parties agree that the car’s value is £15,000, and that it will be paid off in three years
3. The dealer calculates the car’s estimated value at the end of the three years, in this instance, let’s say they’ve settled on a GMFV £5,000
4. You put a deposit of 10 percent down (£1,500)
5. So, you’ve paid the deposit, and agreed that the car will be valued at £5,000 at the end of the three years, so you’ll need to pay £8,500 during the three- year period (current value minus the deposit fee and the GMFV) in addition to any interest agreed at the start of the deal
6. At the end of the three years - provided all accumulated interest and the agreed fees have been paid - you’ll be able to buy the car outright for the GMFV of £5,000, or you can opt for one of the other choices.
What factors should I consider before taking out a PCP agreement?
With most PCP deals lasting from between two and four years, they are by no means a small commitment. Therefore, several factors should be considered before making a decision on whether a PCP deal is right for you:
- Payable deposit - Depending on the car in question, an estimated 10% deposit still represents a sizable amount to pay beforehand. The Vauxhall Corsa was the best-selling car of 2021 in the UK, and the entry level SE Edition trim has a value of £17,015. That would require a deposit of around £1,700, which could be further reduced with a manufacturer’s contribution, but requires you to have saved the funds in advance.
- GMFV at contract’s end - It’s difficult to say exactly how much a car will be worth in several years’ time, so a realistic GMFV amount could be a crucial factor in determining if you’ll be buying that car or choosing an alternative option.
- Make and model could impact GMFV price - Cars from certain manufacturers may hold their value better than others, and the same can be said for particular model types.
- Agreed APR rate - The importance of a fair APR rate is paramount; you don’t want to be ‘taken for a ride’ as we like to say here at Karfu. If it’s a zero interest deal, there may be a clause somewhere that requires a higher deposit or final payment.
- PCP conditions - If you have no intention of retaining the car upon deal expiration, you’ll be held responsible for any noticeable damage the car has developed. You’ll also need to ensure that you don’t risk straying above your mileage cap, since this can be quite expensive in the long run.
- Ownership during PCP period - It’s also worth remembering that during your PCP agreement, your V5C (logbook) will state you as the owner of the car, but the company you financed from will still maintain its property rights. So, you’ll still be responsible for paying fines, tickets and insurance costs accumulated for that car during this period.
What happens if I don’t stick to my agreed PCP instalments?
You should try not to miss any monthly PCP payments, since this could end in repossession and a potential penalty fee. More importantly, missing PCP payments could also have a negative impact on your credit rating.
The first time a payment is missed, your provider will issue you with a reminder to pay. The second missed payment results in an ‘arrears’ notice, which summarises the total amount that’s owed. These notices will be sent at a minimum of six-month intervals, until the concurrent debt has been subsidised or, more worryingly, the provider has gained a court order.
The lender will send you a default notice which states that the arrears must be paid within 14 days. Failure to do so could result in the provider terminating your contract, after which they could not only demand you to pay the full amount owed, but also ask that you return the car. If you cannot make the payment, or do not return the car, the firm can begin to exercise the procedure to repossess the car.
What are the advantages of PCP?
- Small down payment - Paying ten percent (subject to variability) of a car’s value and then loaning it for a term represents a smaller risk than buying a car outright, and it is usually a smaller payment amount than for hire purchase.
- Fixed monthly payments - You are able to stick to fixed monthly instalments, and this rate will not change during the course of your PCP agreement.
- No depreciation worries - If you decide not to buy your PCP car outright, you won’t need to worry about any potential decrease in the car’s value during your period of ownership.
- Refinance option - You could be presented with the option to refinance your ‘big’ final payment if you wish to buy the car outright at the end of the term.
- Maintenance cover - PCP financed cars could have maintenance and servicing costs covered as part of your monthly instalment fees
And the disadvantages?
- Car damage charge - Your dealership will hold you accountable for any damages caused to the car upon return. This doesn’t refer to the general wear and tear that a car will inevitably receive once it gets on the road, but namely, the bigger bumps, dents and scratches that are picked up along the way.
- Credit score - A poor credit history can impact your eligibility to secure a PCP deal, since some dealerships may only agree to a deal if you’ve built up a good credit score.
- Mileage cap - PCP deals are often paired with a yearly mileage cap, which usually ranges from 6,000 to 30,000 miles. If the agreed figure is surpassed, you could be charged with a penalty for each mile you’ve covered.
- Fully comprehensive insurance is necessary - If you’re going to take out a PCP contract, you’re obliged to be supported by fully comprehensive insurance. This in itself can be costly, since it is one of the highest insurance grades you can purchase.
- Decision on car - At the end of your agreement, you’ll need to decide if you’re going to keep, return or sell the car. If you’re going to keep it, you’ll need to pay the final lump sum. Similarly, you’ll need to buy out the remaining fee if you’re planning to put it up for sale. Otherwise, you can return the car and begin to look for your next mobility option.
Are you struggling to decide whether a PCP deal is right for you? Karfu’s search tool uses multiple algorithms to determine whether it may be the payment solution for you. Try out our beta version now - your next car could be just a few questions away.