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Explaining the jargon of car finance

More and more people are currently using car finance options due to their short-term affordability and it helps to alleviate the effects of car depreciation. Everyone involved benefits from this because your car can be moved along once your agreement is over, and the dealer is able to offer more cars to potential customers.

To help you get a better understanding of financing your car, here are a few key terms you should know.

Agreement

An agreement for your car finance is a fixed length of time agreed by you and the lender (the finance company) for which you have to repay the car finance. It is a legally binding contract between you and the lender that outlines your responsibilities, the lender’s responsibilities, interest rates, and other charges. 

It typically lasts over a year, so if you have any questions about the car finance agreement, make sure you get a second opinion from the lender or someone you trust.

APR

The Annual Purchase Rate (APR) specifies how much interest you will be required to pay on a loan (on an annual basis). It’s also known as the interest rate and is the payment added on top of how much you borrow. 

The interest rate will be combined with any administrative fees that lenders charge. There are two types of APR: representative and actual. These are to tackle different credit scores so some people may be paying more than others. This means most lenders don’t advertise the actual APR you’ll be paying, which changes due to your personal circumstance. It’s handy to look around to see what prices suit you best.

Balloon payment

One of the most memorable and important pieces of car finance jargon you’ll become acquainted with is the balloon payment. This is mostly included in the personal contract purchase (PCP) finance agreements, where borrowers have the option to own the car they’re financing at the end of the agreement. 

The lender predicts the price at the end of the agreement, but you can keep the car after you pay the optional payment, or you can return it and get your deposit back. 

This optional price is agreed upon at the start of the agreement contract, so it’s best to know what this is so you don’t get any surprises when your repayment period ends.

Credit rating/credit score

A credit score is a three-digit number that identifies how reliable you are when it comes to borrowing money and repaying it. It is based on past monthly payments and debts you have cleared as these show you and companies how trusted with money you are. 

Lenders use this score to see what rates you’re entitled to when it comes to car finance options. Some lenders won’t give you a car on finance due to your score when they carry out their checks so make sure you have an idea about what it is beforehand so you don’t get disappointed. 

The higher the credit score, the less of a risk you are seen as to lenders, but some have different thresholds so it’s always best to check and make sure. 

Deposit

The deposit is the payment you make at the start of your agreement when you take on car finance. If your deposit is pretty high, don’t be discouraged as this typically means that you pay smaller monthly payments throughout the agreement. 

If you decide to give the car back to the dealer at the end of your agreement contract, you will be entitled to receive your deposit. However, for car financing options such as PCP, the deposit is kept by the lender should you wish to keep the car. 

Deposit contribution

Sometimes, depending on the dealership, they might offer you a deposit contribution toward the car you want to finance. And in some cases, you may have to add your own deposit as well to cover the cost. 

Deposit contributions are usually included in a deal offered by the dealership and if you don’t accept the offer, the deposit contribution won’t be included. 

The deposit contribution can be quite large, reducing the payments dramatically. However, you should review the terms of the deal before you decide. The headline figures may sound good, but the conditions may not suit you.

Equity

In finance, equity is the ownership of assets that may have debts or other liabilities attached to them. So in car finance terms, equity is what your car becomes when you’ve paid all the debts associated with the vehicle. 

It is the difference between the car’s current market value and what the borrower owes on it is called equity, as long as the former is more than the latter.

If you wish to pay off the loan early, negative equity might be an issue since you might wind up paying more than what the automobile is worth.

FCA

The Financial Conduct Authority (FCA) is an independent body that regulates financial services in the UK. 

Their main role is to make sure that customers are protected when financial deals are arranged, and all car finance agreements are carried out under this independent regulator.

Guaranteed asset protection (GAP) insurance

When a car needs to be written off or is stolen, the GAP insurance is the difference between what is left for the borrower to pay and the car’s market value. There is no need to set up GAP insurance.  However, it is always worth looking into as it covers you and your car against depreciation. 

Guaranteed Future Value

Also known as the guaranteed minimum future value (GMFV) is what the car will be worth at the end of your car finance agreement. Because this is the value of your car that you must pay at the end of the agreement, the balloon payment should match the lender’s estimate at the end of the agreement.

Guarantor

A guarantor is typically a trusted family member who is trusted to take on the debt of the car you are financing if you can’t keep up with the payments. 

Guarantors are typically recommended for younger borrowers who don’t have a credit history or have a minimal credit history. The guarantor is a mandatory part of the lender’s car finance agreement as it is legally binding. 

Part exchange

Part exchange is when you trade your old car to use it as a contribution for a new car. It uses the value of your vehicle as a contribution to the cost of a new one. This is a great way for you to save money when deciding what new car to get as this can help you bring the cost down even further.

Residual value

The residual value of your car is the value of the vehicle at the end of your loan or finance agreement. 

This is the market worth of an automobile at any stage in its life. To determine your monthly payments, the lender will estimate the car’s residual value at the end of the finance arrangement.

Term Length

The term length is the time it will take for you to pay off the finance agreement for your car. It typically lasts between one and five years. Because of the length of time, it will take you to pay off your car loan, be sure you have everything covered and understand the agreement before signing anything.

Total repayable/Total amount payable

This is the total cost of the car, including the loan itself, the total amount of interest payable, and any other fees included in your car’s value. 

This is the true overall cost of the car you are financing and will be much higher than the price you would pay for it if you bought it outright in cash. This is because of all the extra costs that come into the agreement that also go towards the lender.

Personal Contract Purchase (PCP) and Hire Purchase (HP):

We have already discussed PCP and Hire Purchase (HP) financing options in a previous blog. 

Take a look here for more information about the two types of car financing: https://caryy.co.uk/car-information/the-pros-and-cons-of-leasing-and-financing-cars/

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