Car Finance or Bank Loan

Cars mean different things to different people.

For some, they’re a necessary part of getting to work and dropping the kids off at school. 

For others, they’re a way to see the countryside, explore beaches, or simply ride around in the sun with the top down.

Whatever purpose your car serves in life, it’s safe to say that they can be an expensive necessity. 

So, what happens when you need a new car, but don’t have the funds to move forward with a purchase?

In this article, we’ll explore the two main ways people fund vehicle purchase in this scenario: car finance and bank loans. We’ll discuss which option may suit certain circumstances to help you on your way to making a decision.

There is a lot to unpack with both options, so let’s dive in!

What is car finance?

The term ‘car financing’ refers to the numerous arrangements through which you can secure the necessary funding to purchase a vehicle.

Essentially, it’s a way to spread out the cost of buying a car over a set period of time rather than paying the full amount upfront.

This can be a handy lifeline when you’re in need of some new wheels, but don’t have the cash to go car shopping at the moment.

Car finance options are offered by many institutions including banks, credit unions, and even car dealerships.

Getting a car, whether you’re buying, hiring or renting, can be an overwhelming process. 

There’s so much information to consider, and so many options to weigh up.

You may have found yourself unsure of where to start your search, so here’s a few methods of buying a car to read up on.

Hire Purchase

When buying a car through the hire purchase model, you pay an initial deposit which normally sits at around 10%. You’ll then be allowed to take your new vehicle home.

From this point on, you’ll need to make a fixed monthly payment over a set period until the overall cost is paid.

Under this arrangement, the lender owns the car outright until you make the final payment, at which point ownership of the vehicle is transferred to you.

Hire purchase is nice and easy, with very little hassle on your part.

Instead of saving a little each month and getting the bus in the meantime, you can drive away immediately and pay off the cost of your car over a timeframe which suits your budget.

Personal Contract Purchase

Personal Contract Purchase is a lesser-known option in comparison to hire purchase, but is just as advantageous. 

This arrangement involves paying lower monthly instalments for your car than you would with a traditional loan.

First, you agree on a deposit amount with a lender. Once this has been paid, you will follow up with making fixed monthly payments for a defined length of time.

At the end of the term, you’ll be offered the option to return the vehicle to it’s previous owner, make a culminating "balloon" payment to own it outright, or trade it in for a shiny new car instead.

This option is highly flexible, and especially apt if you think you might want to upgrade your car again in a short while.

Rental or lease

As you may suspect, car rental – or car lease - is basically a long-term rental agreement with similar parameters as you may find on a tenancy agreement for a house or flat.

You don't own the vehicle at any point under this arrangement. However, this works for a lot of people!

Car lease allows you to drive a vehicle of your choice for a fixed amount of time. This can be a period which suits you. Typically, people lease cars for anywhere between 2-4 years.

To fulfil your side of the bargain on a car rental, you simply need to make monthly payments to the lender. At the end of the lease, you’ll return the car and can upgrade it for a newer vehicle if you so wish.

The terms, interest rates, and eligibility criteria for each car finance option can vary between lenders.

Aspects of your credit profile, including your credit score, the stability of your income, and the lender or dealership you choose all have an impact on which deals and arrangement you’ll be eligible to access.

It's important to pay close attention to your budget, your repayment capabilities, and the terms of the financing arrangement before you fully commit to one car financing arrangement.

What is the difference between car finance and a bank loan?

Car finance and a bank loan are, of course, both methods of obtaining funding to purchase a car.

However, there are some key differences between the two.

Purpose

Not to state the obvious… but car finance is specifically designed for purchasing a vehicle, whereas a bank loan can be used for various purposes once you’ve been accepted for one.

Car finance options often have specific terms and conditions tailored to suit the way vehicles are bought and sold in the automotive industry.

Collateral / Security

In car finance, the vehicle itself serves as collateral for securing the loan you take out.

If you fail to make repayments in accordance with the schedule that’s been outlined, the lender is legally allowed to repossess the car.

On the other hand, with a bank loan, collateral requirements can vary depending on which lender you work with.

Certain providers may require you to stump up some additional security, such as property or other high-value assets.

Loan Terms

Car finance options normally have rigid terms and conditions, such as fixed repayment periods and interest rates specifically tied to the automotive industry.

Bank loans, conversely, can carry more flexible terms and might be available across longer periods, depending on the lender you go for.

Ownership

With a car financing arrangement like hire purchase or PCP, you don’t own the car you buy until the final payment is in the lender’s bank account.

The lender retains ownership of the vehicle throughout the entire repayment period.

In contrast, with a bank loan, you do own the vehicle outright from the moment of purchase. This is because the loan is not usually directly tied to the car itself, unless it’s serving as security.

Interest Rates

The interest rates for car finance and bank loans can vary depending on your personal finances as well as lender policies.

Car finance rates can sometimes be influenced by factors like the value of the vehicle, your individual credit history, and the specific finance option you choose.

Bank loan rates, on the other hand, can be influenced by a wider range of factors, including your creditworthiness, wider interest rates on the UK set by the Bank of England, and the purpose of the loan: buying a vehicle.

When weighing up car finance and a bank loan as your two broad options, it's vital to consider factors such as the total cost of your financing, the repayment terms and how they fit in with your monthly budget, interest rates, and your financial situation across the loan term.

Comparing a few offers from different lenders and carefully evaluating the terms and conditions of each one will help you make an informed decision you can feel confident about.

Is a personal loan cheaper than car finance?

For many people who are looking to buy a car under a credit arrangement, the ultimate goal is to pay the least interest possible over the term of the deal. 

This means that you’ll ultimately pay less to borrow money.

However, the interest rate you’ll be offered by a lender, whether that’s through a bank loan or one of the car financing options we mentioned above, will depend on your credit history and credit score.

If you’re somebody with a high credit score, a personal loan may offer the lowest interest rate out of all the routes you could pursue to buy a car.

However, if you’re stuck with a bad credit score due to some questionable financial behaviour in your past, car finance may well offer you better rates in comparison to a loan.

In more extreme cases, if you have an exceptionally poor credit history, then car finance may be the only credit you can access as many personal loans will be unavailable to you.

It will always depend on your specific situation, from your credit score to what type of vehicle you’re looking to purchase.

Can I get a car loan with bad credit?

Yes, it is possible to get a car loan with bad credit, which should be music to your ears if your score isn’t the greatest.

However, it may be more challenging compared to obtaining a loan armed with a good credit record.

Bad credit typically refers to having a low credit score resulting from a history of late payments, defaults, high debt levels, or other negative financial behaviour which it’s best to avoid.

There are some options to consider when you’re on the hunt for a car loan with bad credit.

Subprime Lenders

You may be relieved to find out that there are specialised lenders, often called subprime lenders, who exclusively work with people who have a less-than-perfect credit history.

These lenders are much more likely to consider factors which stretch beyond credit scores when evaluating loan applications.

Factors like income, employment stability, and the ability to make regular payments all feature in the decision-making process of subprime lenders.

Just be aware that subprime loans often carry higher interest rates to compensate for the higher risk a lender has to take on somebody who is less creditworthy than the average borrower.

Guarantor

Having a guarantor on board with a robust credit history can increase your chances of getting approved for a car loan quite considerably.

A guarantor is someone you trust who agrees to be equally responsible for making the loan repayments you signed up to if you default.

The lender takes into account the guarantor’s creditworthiness, which may result in more favourable loan terms being offered to you than you’d be able to attain alone.

Keep in mind that your guarantor’s credit score will be at risk if you default on your loan, and this can fracture your relationship with them, so make sure you both know what you’re getting into before applying.

Larger Deposit

Making a larger down payment on a car loan can help mitigate any risk associated with your poor credit history.

It reduces the loan amount overall, and shows the lender that you have a vested interest in making responsible financial decisions surrounding purchase of the vehicle.

A big deposit may improve your chances of loan approval and potentially result in more attractive loan terms like flexible payment options and lower fees.

Dealerships with In-House Financing

Some car dealerships offer their customers in-house financing options, or alternatively work with third-party lenders who specialise in providing loans to people with bad credit.

If this is you, these dealerships may be more willing to approve your loan application.

It's important to remember that getting a car loan with bad credit might result in you needing to cover higher interest rates, abide by stricter terms, or result in the need for a larger down payment.

Before proceeding with your chosen car financing option, it's a good idea to carefully review your budget, assess the loan affordability yourself, and weigh up the impact of interest rates on the total cost of the loan you take out.