By: Laura Mitchell-Hall
More people than ever are choosing to finance their next car. Car finance has become more accessible to a range of different people over the years so its easy to see why the car finance industry has grown. With this in mind, there are still certain criteria that finance lenders put in place to reduce the level of risk. From a lenders point of view, they need to know whether a borrower can be trusted to pay back their loan on time and in full. They can do this by checking a credit report or running an affordability check. The guide below has been designed to explore the factors you should consider before you apply for car finance.
How does car finance work?
Car finance refers to the lending of money to purchase or hire a car over a set amount of time. Car finance agreements can be provided by banks, building societies or car finance lenders. When you get a car on finance, it isn’t just a one size fits all agreement and there are a number of different agreements you can choose from in the UK. Each has their own structure but in general you will borrow a set amount form a lender and pay it back monthly over a number of years with added interest. The interest rate reflects the cost of borrowing and can vary with each individual applicant. A lower interest rate for car finance is better as you won’t end up paying as much back overall.
Factors to consider before a car finance application:
Car finance is accessible to many but it’s worth remembering that car finance is never guaranteed and there are a few things you could consider to increase your chances of getting an approval.
1. Check your credit report
The first thing you should do before you apply for any form of credit or finance is to see how your credit score is looking and if there’s anything you can do to improve it. Your credit report will feature your credit score and show all the information lasted with credit referencing agencies. You should make sure all your information is accurate and up to date as many lenders will use your report to verify the information on your application. Having a low credit score can make it harder to get approved for car finance as you are more of a risk to lend to. This is because a bad score usually reflects a history of missed or late payments, high levels of debt, high credit usage or no previous credit history. Where possible, you should try to increase your credit score before you start applying to increase your chances of approval and make your finance deal more affordable.
2. Research car finance agreements
As mentioned above, car finance doesn’t just fall into one type of agreement. In the UK, there are three main types of car finance that tend to be most popular.
- Personal loan: A personal loan can be one of the most straightforward ways to borrow money, but it may be harder to obtain a personal loan with bad credit. A personal loan is when you borrow a set amount from a lender and if accepted it is deposit into your bank account. You then have the freedom to shop for the car you want just like a cash buyer. You will then make fixed monthly payments with interest till the end of the agreed term, usually between 1-7 years.
- Hire Purchase: Hire purchase is a type of secured loan with means the lender owns the vehicle throughout the agreement until you make the final payment. The money isn’t deposited into your bank like a personal loan but instead you make agreed monthly payments over 3-5 years with added interest. This can be a good option for those with bad credit as if you fail to repay, the lender has the right to take the car off you.
- Personal Contract Purchase: PCP deals are a form of hire purchase but instead of paying back the full cost of your chosen car, you instead pay off the cost of depreciation, making monthly payments smaller than other options. At the end of a PCP deal you have three options; you can hand the car back to the dealer, pay the large balloon payment and keep the car or use the value of the deal on another PCP deal and a new car. The balloon payment a PCP deal can be quite large so many people choose to refinance PCP balloon payment to keep driving the car they love.
3. Affordability
When you apply for finance, it’s important that you can afford to make all your payments on time and in full. Many lenders will require you to pass an affordability check before you can get approved for finance. Some lenders also have a minimum income amount you will need to meet in order to get approved for finance.
4. Deposit contribution
Some car finance agreements do require you to put down a deposit as part of the criteria so it’s worth considering before you apply. In many cases, this can be as high as 10% of the value of the car. Whilst you can get a car finance deal with no deposit needed, it can help to have a down payment. Putting more in for your car finance deal means you don’t have to borrow as much from a lender. This helps to reduce your loan amount and make monthly payments smaller, and the loan is more manageable. It could also help you pay back your finance faster and help you secure an approval.
5. Employment status
Similar to affordability, lenders will want to know what money you have to pay back your loan and how frequently you get an income. Fulltime workers who have been in their job for over 3 months are usually the most desirable but nowadays, you can even get car finance on benefits. For many people who are unemployed, it is a guaranteed source of income every month. Lenders will usually ask you to supply 3 months’ worth of bank statements to see how much you earn and your expenditure and decide how much you could comfortably afford for finance.
Disclaimer: (This article is sponsored and includes some commercial links)
