Car loans

If you need a vehicle but don't have the cash to pay for it up front, a car loan could help you get back on the road. However, with such a huge range of different financing options out there, it could be difficult to know where to start looking. 

In this article we’ll outline different types of car loan at your disposal, how they work, and what you need to know before taking one out. 

What is a car loan? 

If you don’t have the cash to buy a vehicle outright, a car loan enables you to borrow money from a lender, and then pay it back over an agreed period. 

In most cases, car loans are secured. This means that the car you’ve used the loan to buy will act as collateral to guarantee the lenders’ recuperation of the funds you’ve borrowed.

If you don’t make the repayments on the loan which you’ve agreed to, the lender is allowed to repossess your new car to recover the money you still we them. 

However, the good news is, the fact that the loan is guaranteed means that the interest which you’ll pay on the loan is likely to end up being lower, saving you money on the overall cost.

So, as long as you can keep your finances in tip top shape, continuing to make repayments to your lender, a car loan can be an excellent option for financing your next motor. 

Is a car loan the only financing option for buying a new vehicle? 

Despite car loans from a lender or credit union being a popular way of financing a new vehicle purchase, there are a few alternative financing options at your fingertips. Some common ones are: 

1. Hire purchase – When you decide on using hire purchase to buy your new car, you pay a deposit on the vehicle initially. This usually sits at around 10% of the full price. You would then be asked to make monthly payments until you've covered the full amount. Once you've made all the payments, you own the car outright. This type of loan comes with an interest rate too, but it’s fixed in most cases. 

2. Personal contract purchase (PCP) – Akin to hire purchase, PCP also requires you to pay a deposit, and then proceed to make monthly payments. However, in contrast to hire purchase, when your PCP agreement is coming to an end, you will be given the option to make a final payment (otherwise known as a balloon payment) to purchase the car outright. If you don’t want to do this, you are able to hand the car back to the dealer and move onto a new vehicle. 

3. Personal loans - Personal loans are highly flexible and can be used for almost anything. Fortunately, this includes buying a car. If you choose this financing option, you’d borrow a set amount of money from a lender and use this sum to make your purchase. Then, you’d be expected to repay the loan over a set period. The rate interest which gathers on this type of loan varies. However, if you’re willing to secure the loan by using your new car - or indeed any other item of value - as collateral, the interest rate should remain relatively low which can save you money in the long run.

Why take out a car loan instead of a different type of car financing option? 

As shown above, there are many car financing products available on the market. This might be difficult to decide whether a car loan is the best choice for you.

There are a few reasons why many consumers choose to specifically take out a car loan instead of a different type of car financing option: 

• Lower interest rates - Car loans normally have lower interest rates than other types of loans, including personal loans and credit cards. This means that if you take out a car loan, you’re likely to pay less in interest for the duration of the loan. 

• Secured loan - Car loans are nearly always secured loans. As the car you’re using the loan to buy serves as collateral, it’s often easier to qualify as a creditworthy borrower. This is because, with the vehicle at stake if you don’t keep up with repayments, the lender has a heightened degree of security if you default on the loan they’ve agreed to give you. 

• Fixed payments - Ordinarily, car loans come with fixed payments. This is good news for borrowers, as it means you'll know exactly how much you need to pay each month. Budgeting for this added cost each month will therefore be straightforward, and you can be sure you are able to factor it into your financial planning.

• Duration of loan term - Fortunately for consumers, car loans tend to have longer loan terms than other types of loan, including some of the alternatives to a car loan such as a personal loan, for example. Having longer to pay the total sum back to the lender can make it much simpler to manage making monthly payments. 

As with any personal finance product, the type of car financing options available to you will depend on your individual situation.

Things like your credit score, the total sum of funds you need to borrow, and how quickly you might want to finish paying the loan back all factor into a lenders’ decisions on whether you are a suitable candidate for any type of personal financing product. 

Do you always need to put a deposit down if you’re buying a vehicle with a car loan? 

So, do you always need to put down a deposit when using a car loan to fund the purchase of a new motor? It’s highly likely that lenders will require this.

Banks or credit unions who offer to lend you money like to see a deposit being paid as a way to lower their risk.

Asking borrowers to pay a deposit also ensures that they have some equity in the car from the offset. 

The total sum of your deposit will ultimately depend on the lender’s interpretation of your creditworthiness and the car you’ve decided to buy, so there’s no universal figure which applies to everyone.

Typically, you'll be expected to put down somewhere between 10% and 20% of the car's purchase price.

However, your credit score can influence this figure. Some lenders could ask for a greater deposit than 20% if your credit history is a at all unstable. 

A rule of thumb when applying for loans is the bigger your deposit, the lower your monthly payments are likely to be in most cases.

So, if you can find some extra cash to put down before taking out a car loan, doing so could save you a lot of money in the long term. 

On the flipside, if you haven’t got much cash to hand, there are solutions to be found. Fortunately, some lenders offer car loans with next to no deposit.

It is likely that your credit score will have to be good in order to qualify for this type of loan, but they are available for individuals who can meet the lenders’ criteria.

However, it’s always worth being aware that deposit-free loans could potentially come with higher interest rates, or other fees associated with processing the loan. 

Do lenders need proof that you're spending a car loan on a car? 

Typically, lenders want to have peace of mind that you're actually spending a car loan on a vehicle. Like we said earlier, car loans are usually secured, so the car itself serves as collateral for the loan.

If you default on the loan, the lender will want to know that they’re going to be able to repossess the car to salvage the funds they initially lent you. 

For this reason, lenders will usually ask for some documentation to show that you're using the money they’ve given you to finance your next car purchase so they can know there’s a vehicle in the equation, should you fall behind on repayments.

Examples of documentation you might be asked for by a lender includes an invoice or purchase agreement from the car dealership, or a private sale agreement if you're buying a vehicle from a private seller. 

Once I’ve obtained a loan to buy my new car, how long do I have to make the purchase? 

Currently, there's no specific limit on how much time you have to take the plunge on buying a new car once you’ve received your loan payment.

Once everything’s gone through, you can use the cash to make the purchase at a time which suits you. 

However, it's important to note that once you've received the loan, you'll start accruing interest on the sum you've borrowed pretty much immediately.

Therefore, the more time you take picking out your new car whilst you’re sitting on a loan, the more interest you'll end up paying on it overall. 

There’s a couple of things you can do in this situation. If you’re not sure when you’ll be ready to decide on a new car, it could be a good idea to hold off on taking out a loan just yet and continue shopping around for a deal which suits you. 

On the other hand, if you have a ballpark date in mind despite not being quite ready to buy your new car yet, but you're not keen on frittering away cash by paying off the interest gathering on your loan, some lenders could offer a deferred payment option. 

This type of agreement will allow you to delay making payments on the loan for a set period of time.

Lenders may afford you a few months. In this time, you could save up for a bigger deposit or hang around for a better deal on a car you’ve already got your eye on. 

Whilst this seems like an ideal solution for many, it's vital that you read the terms and conditions carefully.

Deferred payments sometimes come with additional fees or higher interest rates, so doing your due diligence is important as you don’t want to end up paying more money than you’ve planned to.