What is Personal Contract Purchase?

Low monthly payments and flexibility at the end of the contract - welcome to Personal Contract Purchase, also known as PCP finance

Jul 31, 2020

Personal Contract Purchase - PCP for short - is by far and away the most popular type of car finance. In fact, nearly three quarters of new car drivers choose PCP to finance their cars. It’s increasingly becoming the norm for used car buyers too, with many drivers loving the low monthly payments and the flexibility it provides.

Personal Contract Purchase offers lower monthly payments than other types of finance - such as Hire Purchase (HP) or traditional loans - because instalments only cover part of the car’s cost. This makes PCP great if you want small monthly bills, but remember that you won't own the car unless you make the large optional final payment.

With PCP, monthly payments cover the value the car is expected to lose over the course of the contract - and if you want to own the car at the end you then make the optional final payment - which in some cases amounts to half of the car's original price. As a result, though, used cars start from less than £100 per month with PCP, with even some relatively young used cars available for less than £100 per month.

Once you’ve picked your car, you need to choose the contract length. Typically contracts last between two and five years. At the end, you can hand the vehicle back with nothing to pay - provided you've kept the car in good condition and within the pre-agreed mileage limit - or buy the car by refinancing, or making a one-off payment. After this, you will own the car outright.

There is a third option though; you can part-exchange the car if it is worth more than the remaining finance balance - which is known as having equity. If you're in this position, trading it in for another finance contract raises enough money to settle the original finance agreement with some money left over. This can then be put towards the deposit on another car, reducing your monthly payments.

It’s worth noting that PCP deals come with a mileage limit, which typically defaults to 10,000 miles per year or less. You’ll be charged for going over this limit, as well as any ‘excessive’ damage if or when you hand the car back. You can increase this limit or reduce it, but be aware the higher the limit you go for, the higher your monthly payments.

   Personal Contract Purchase advantages and disadvantages

Personal Contract Purchase advantages

✔ Low monthly payments
✔ Range of options at the end of the deal
✔ Good for regularly upgrading cars
Protection for unexpected loss of value

Personal Contract Purchase disadvantages

Potentially less suitable for high-mileage drivers
Generally not available on cars over five years old
Higher interest charges than HP overall if you buy the car   

Personal Contract Purchase car finance: how it works

  1. Choose your deposit. Some PCP deals don’t require one.
  2. Choose the length of your agreement. You’ll then make set monthly payments until the end of the agreement.
  3. Once you’ve finished the contract, you have three options:
  • Return the car with nothing more to pay - even if it’s worth less than expected - provided you've kept it in good condition and stuck to the pre-agreed mileage limit.
  • Buy the car with a one-off payment - the optional final payment. This is sometimes called a balloon payment or guaranteed minimum future value (GMFV).
  • Trade the car in for another one. If the car is worth more than the optional final payment, the difference can go towards a deposit on another finance deal.
       

       

    Used car Personal Contract Purchase

    If you’re after a used car, you’re in luck. Personal Contract Purchase in general is offered on cars up to around five years old. That gives you a huge choice of cars from pre-registered models - practically new cars with barely any miles on the clock - to older models that may be on sale for a fraction of their original price.

    Cars older than this are not normally available with Personal Contract Purchase because it becomes difficult to predict their value at the end of the agreement. This makes the monthly amount and the balloon payment hard to judge.

    Hire Purchase, or HP, is often a simpler solution if you want to buy a car outright because the full cost of the car is split across the deposit and series of monthly payments. This means that you pay less interest overall than with PCP where you choose to buy the car at the end of the contract and you don't have to make a large optional final payment, which could amount to many thousands of pounds.

       

    Personal Contract Purchase deals

    You’ll see PCP deals on offer left, right and centre. Sometimes these are presented with 'deposit contribution' discounts or low APR - meaning you pay less in interest - or even 0% APR, that's interest-free credit. While low interest charges are good as they reduce the total amount you have to pay, you have to consider the cost of the car you're not paying interest on. It's no good getting 0% APR if the car itself has a massive price tag, as your monthly payments could still be high.

    This is where getting like-for-like finance quotes comes in. Used cars typically have much lower monthly payments than equivalent new cars, so it's worth shopping around and comparing the options. Low APR finance on a one-year old used car with a cash price that is £7,000 less than a new equivalent with 0% APR could still have much lower monthly payments. Keep an eye out for low interest charges but also look for cars that have reasonably low cash prices, as both make a difference.

    Personal Contract Purchase deals

           

    Another way of getting a low monthly payment is by picking an in-demand car. These should hold their value well - meaning that they'll be worth more at the end of the finance contract. Since PCP monthly payments essentially cover the difference between the car's initial price and its expected value at the end of the contract doing this could cut your monthly payments compared with a car with a similar cash price that is in less demand.

    Remember, though; if you want to buy the car at the end of the contract, you'll have to pay more - or refinance a larger amount - if you pick an in-demand car. Another simple way to cut your monthly payments is to put down a larger deposit - which also reduces your interest charges, as you're borrowing less.

    Personal Contact Purchase vs HP vs PCH

    Hire Purchase (HP) is usually the cheapest form of finance if you want to own the car at the end of agreement. This is because you make larger instalments, so you're paying off the balance quicker, which in turn reduces the cost of the interest. You own the car at the end of the contract with Hire Purchase, so if the car drops in value unexpected you lose out if you sell it, as the car will be worth less than expected at this stage.

    On the opposite side, if you want to hand the car back at the end of the agreement, personal contract hire (PCH) - also known as leasing - is usually the cheapest option. It’s only really available on brand new cars though, and doesn't offer the flexibility of PCP. There’s no option to buy the car at the end and it's likely to be more difficult to hand the car back early if your circumstances change.

         

    How are Personal Contact Purchase payments calculated?

    All of the payments in a PCP deal depend on the optional final payment - also known as the guaranteed minimum future value (GMFV). This is an estimate of how much the car will be worth at the end of the agreement, and is based on industry data.

    The deposit and monthly payments then cover the value that the car loses during the term - also known as depreciation. You pay interest on all of the money that you borrow, though - including the optional final payment.

    The GMFV means that you don't have to worry about the car depreciating faster than expected. If the car is actually worth less than the estimate at the end of the agreement, then you can still walk away with nothing to pay and hand the car back to the finance company.

          

    How does Personal Contract Purchase trade-in work?

    Trading your car in is always on the cards too. Instead of simply returning your car at the end of the contract, you can trade it in and drive away in a new model.

    Assuming that the car you’re trading in is worth more than the optional final payment - PCP is typically set up so that this is the case, but it is never guaranteed - the difference can go towards a new finance deal. This can often go towards your deposit.

        

    Can I trade in my car with a different seller?

    You can usually trade the car in with a different seller or manufacturer at the end of your Personal Contract Purchase deal, as very few sellers will want to miss out on your business. They will ensure that the finance is settled, and will be able to use any surplus in the trade-in value as a deposit.

    They might even value the car more highly, giving you a bigger deposit for your next vehicle.

             

    Can I end my Personal Contract Purchase contract early?

    You can end your contract early by requesting a settlement fee from the finance company. Once this fee is paid, you should owe nothing more to the lender. If you have the cash, you can simply pay this fee off and you'll own the car.

    This isn't an option for many people, so it is possible to sell or part-exchange your PCP car with the agreement of your lender, who remains the owner of the car until the agreement is settled. 

    If you are near the end of the agreement, then your vehicle may be worth more than the settlement amount. In this case, most of the proceeds of the sale or part-exchange will go to your lender. The remainder of the money will either come to you or be put towards your next car.

    If your car is worth less than the settlement fee, you will need to make up the difference between the car's value and the amount owed to the lender. If you are part-exchanging the vehicle for another one, then you may be able to take out a negative equity loan. This will cover the cost of the new car, as well as the remainder of the settlement fee, which you'll repay in monthly instalments. 

    Other solutions are available if you are struggling to make your payments; but they vary from lender to lender.

    Voluntary termination of Personal Contract Purchase 

    You’re legally allowed to terminate the contract voluntarily, once you’ve paid off half off the total amount owed. Once you’ve done this, you can hand the car back with nothing left to pay.

    However, because the total owed includes interest, fees, and the final balloon payment, you’re unlikely to get to this stage until late on in the agreement. You could, if you had the funds, activate the voluntary termination by making a one-off deposit that takes your repayments up to 50%.

    You can repay your Personal Contract Purchase deal early. This usually saves you money in the long run on interest payments, but you’ll typically have to pay an additional fee that covers some of the interest that the finance company is missing out on.

        

    What happens if a car on Personal Contract Purchase is worth less than expected?

    One of the main benefits of a Personal Contract Purchase agreement is that it offers total protection against a sudden and unexpected drop in car values. Once you've made all of your monthly instalments, then you can just hand the car back with nothing more to pay. Even if it is worth thousands of pounds less than its Guaranteed Minimum Future Value (GMFV).

    Bear in mind that an unexpectedly low valuation will limit your options at the end of the agreement though. If the car is worth less than the GMFV, then you won't be able to trade it in; and you'll need to find the money for a deposit towards another car, or opt for a no-deposit agreement.

    Buying the car also doesn't make sense as the cost would be the GMFV - more than the car is worth. You'd be better off handing the car back and buying a similar model that's on the market.

        

    What happens if I crash a car on Personal Contract Purchase?

    Usually this is something that you don’t have to worry about. This is because one of the conditions of taking out a PCP agreement is usually that the car is covered by fully comprehensive insurance. This ensures any repairs are paid for.

    So, if the car is written off, then the insurance would normally pay out for the value of the car at the time. This goes to the finance company, as it is the owner of the vehicle during the PCP term.

    If the car has lost a lot of value soon after you bought it - which is often the case with new vehicles - then it may be worth less than the amount that you owe to the finance company. You would have to make this difference up, so it’s usually worth while taking out guaranteed asset protection (GAP) insurance to pay for this. This covers the cost of replacing your vehicle with a brand new example, which is likely to clear your debt.

               

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