Finance Explained

Contract Hire

Contract Hire (or leasing as it is sometimes called) is simply a method of long term rental, linked to a mileage allowance, which provides you a fixed monthly payment for the vehicle you want.

You can choose how long you want to keep the car for, and simply send it back at the end of the contract and order a new vehicle. It is a really simple way to budget and fix your motoring costs, as all you do is insure and put fuel in your vehicle.

Why buy a car when they will lose value over time?

Contract hire protects you from the depreciation risk of owning a vehicle and can include maintenance cover/breakdown cover (optional), vehicle excise duty and much more. This method of vehicle funding is ideal for companies who do not want to tie up cash buying outright or have the financial risk of running their own car fleets.

Reduce the administration of buying, servicing (if part of the contract) and disposing of vehicles by contract hiring. Just hand the vehicle back at the end of the contract and order a brand new vehicle - it's as easy as that!

This method is usually available for both business and personal contracts. Please check if you are not sure.

Hire Purchase

With other forms of credit, such as a loan or credit card, the goods you buy belong to you straight away. When you use HP:

• You don't legally own the goods until you've paid back all the money you owe. This means that you cannot modify or sell them without the lender's permission
• Your contract is with a finance company (not the retailer) who will own the goods until the final payment is made
• The finance company can take the goods back if you don't keep up your repayments
• You will be liable for any damage caused to the goods during the contract period.

Under a hire purchase (HP) agreement, you pay an initial deposit followed by monthly payments (a portion of the money you borrowed plus interest) over an agreed period.

At the end of this period, you have the option of owning the goods outright, although your lender may require you to pay a fee (check because this could be high).

Conditional sale (CS) agreements are similar to HP, you will own the goods once all your instalments have been paid. There will be no extra fee to pay at the end.

Personal Contract Purchase

PCP was designed specifically to be a personal contract for private individuals. Should you enter into a PCP plan, it is classed as a conditional sale agreement that offers you protection under the Consumer Credit Act 1974 and the Financial Services Regulations 2004.

Seen as a way to avoid the depreciation trap, a PCP agreement allows you the option to set up a contract term, with monthly payments. At the end of the term, you then have the option to purchase the vehicle, or simply hand it back to the contract provider

Before entering into a PCP, you need to consider the following as they all have an impact on your monthly payment:

1. How much the vehicle is costing new
2. How much deposit you are placing on the contract*
3. How long the contract will be over
4. How many miles you are intending to do
5. A GFMV (see below) – or residual value
6. The finance rate
7. Maintenance Requirements.

GFV - Guarenteed Future Value

This is determined at the start of the contract and is a guarenteed amount which the finance company will buy the vehicle back from you once the contract has elapsed and all payments have been made.  

Car Purchase Loan

This type of loan is specifically designed for motor vehicles. The structure of this loan is designed around fixed monthly repayments, normally based over 12 to 60 months in one month steps. The age of the vehicle needs to be no older than 10 years at the end of the agreement.

A deposit is not required, however this will be determined on your credit status. The interest is calculated as a percentage of the balance per annum.

Lease Purchase

Lease Purchase is practically identical to Hire Purchase, the only difference being that instead of paying a deposit of 10-15% you typically pay a deposit as a multiple of the repayments. The remaining balance and interest is repaid in instalments. The number of instalments is defined by the pause.

As an example, a hire purchase agreement would have a 10% deposit followed by 36 monthly repayments. The equivalent Lease Purchase would have a profile of 3 payments in advance followed by 33 (if terminal pause) or 35 (if spread pause) monthly repayments.

Your eligibility for the VAT and writing down allowances is exactly the same as for hire purchase, and you can expect the fee structure to be the same.

Again, Lease Purchase agreements can be based on a fixed or variable rate, and the monthly commitment can be reduced by the inclusion of a balloon.

Balanced Payments

This finance is an option for contracts normally over £25,000, with the advantage of fixed monthly payments. However, unlike Hire Purchase, where the interest is fixed, balanced payment plans track changes in the finance house base rate. As rates fall or rise over the period of the contract, so does the interest charge you pay.

Basically, you pay an initial deposit, and repay the balance in fixed monthly payments over an agreed term set by you (12-60 months).

At the end of the term any variation of interest is reconciled and will be settled as either a credit to you, or a charge. Dependant on funder, this can be be annually.

Other options available with Balanced Payment Plan include a deferred final ‘balloon’ payment, or settling your agreement early with a lump sum payment. This payment is based on any remaining capital and one months interest. This is a good option for people who want to change there vehicles regularly.

Finance Lease

With any finance lease contract the finance company takes full ownership of the asset and rents the goods to you over a predetermined period. The finance company can claim the writing down allowances and convey this benefit to you by reducing the rentals.

It also worth noting that the purchase price that is being used to calculate the rental is the purchase price net of VAT. Thus, if you are looking to acquire a VAT qualifying car, if leased the rental is calculated on the net price of the car and not the gross price if funded by Hire Purchase.

Having paid the documentation fee (if applicable) and an initial payment of a multiple of rentals, substantially all of the remaining cost of the vehicle are spread over the agreed primary period in accordance with the pause.

The rentals attract VAT that can be recovered subject to eligibility. As the finance company is the owner of the asset, you will not need to pay the purchase VAT at inception.

As with Hire Purchase, you can include a balloon rental to reduce the value of the primary rentals. At the end of the agreement you may have the option to enter into the secondary period. As you have generally covered the entire capital cost of the asset and hire charges (interest) in the primary period, should you wish to continue to use the asset, a secondary or peppercorn rental is charged. This rental typically approximates to 3% of the original cost and is a one off annual payment.

As you are not the owner of the asset, you cannot sell the asset during the rental period. However, as you are generally covering the total cost and hire charges within the primary period, you will be entitled to a share of the sale proceeds should the leasing company allow you to sell on their behalf. Your share of the sale proceeds is usually agreed at inception and is typically 95-99%