More than nine in ten buyers take out some form of financing when buying a new car in the UK. Personal Contract Purchase (PCP) and Hire Purchase (HP) have long been the mainstays of new car financing in the UK market, but more buyers are now turning to leasing, also known as Personal Contract Hire (PCH), to catch up on the wheel of a new one Cars. The question is, should you buy or lease your next car?
The most common form of car leasing differs from PCP car financing in one key way: instead of offering you the option to buy the car at the end of the term, or using accumulated equity to start new financing for a new car, you have to PCH customers return the car at the end of the contract. With a car lease, there is no option to own the car.
Unlike a PCP deal, PCH customers are bound by the lease and have no right to terminate it early. It is possible to arrange early termination of a lease with the lender, but penalties are likely to be imposed for doing so. Because of this, it’s important to make sure leasing a vehicle meets your needs before you sign the dotted line.
While PCH isn’t for everyone, a look at the savings these lease deals offer gives a good indication of what might be persuading people to make the switch. If your priority is low monthly payments, leasing can look very attractive.
How does car leasing work?
A car leasing business is structured in a well-known car financing style. You’ll sign a contract that usually requires an upfront payment, followed by fixed monthly payments over the contract term. At the end of the lease term, the vehicle is returned to the dealer, where it is usually resold.
To a certain extent, car leasing works on the same principle as PCP financing. Both are residual products. With PCP, you borrow the cost of a car’s estimated depreciation over an agreed term. The projected value of a car at the end of a PCP deal is called the Minimum Guaranteed Future Value (GMFV) and the difference between the car’s current value and the GMFV is used to calculate monthly payments.
A typical leasing scenario would be that a car costs £20,000. After three years, data suggests it will be worth £10,000 at the agreed mileage. The lender does not set the GMFV at £10,000, it is more likely that they are targeting around £8,500 to provide a buffer for changes in the car’s predicted market value. This process determines what the monthly payments for the business are.
What are the advantages of car leasing?
A key benefit of car leasing is that monthly payments tend to be lower compared to other forms of financing. This is because you are effectively renting the car from the lender for the duration of the deal. Unlike PCP, you don’t build equity on the car to take ownership of at the end of the deal.
Because you don’t have the option to buy the car outright at the end of the contract, you don’t have to worry about taking ownership of a depreciated asset in a few years. All kinds of costs can also be built into the lease agreement. Usual routine maintenance and taxes are built into the contract, but you can even take out leases with insurance included, so you only have to make a single payment each month for all your driving expenses.
Leasing can also be arranged over a variety of different periods. Contracts are typically two or three year terms, as you would expect with other types of car financing, but short-term car leases are also available that allow you to get a car for a few months.
In short, car leasing is a good option if you want to exchange your car for a new one every 2-3 years. If you like the sound of minimal maintenance costs, lower monthly payments than typical financing options, and don’t mind never actually owning the car, then leasing might be for you.
What are the disadvantages of leasing a car?
However, there are also disadvantages to car leasing. Equity building is a key advantage that PCP deals offer over leasing deals. You cannot use any equity capital at the end of the contract with a PCH leasing contract. The equity built up over the course of a PCP deal can be used as a down payment on a new car at the end of the contract term, or allow you to own the car after making the final ‘balloon’ payment.
Because with leasing you don’t build up equity, if you end up paying off more than the car has lost in value over the course of the contract period, the money is gone – no ifs or buts. It just means more profit for the dealer or lender when they sell the car to a new owner.
As we’ve already established, with a lease you never actually own the car, but that doesn’t mean you don’t have to take care of it. Fees may apply when you return your leased vehicle if you have exceeded the contractual mileage or if it is in poor condition. It’s always worth reading the fine print of any finance agreement carefully and checking for any fees and charges before you sign it.
You can lease used cars, but most leases are for brand new vehicles with full manufacturer warranties. If you want to lease a used car or extend a leasing contract with your lender, you need to know when the guarantee expires. Once there’s no manufacturer warranty on a car, it’s far more likely that you’ll have ended up with bills if something goes wrong.
In summary, leasing may not be right for you if you would like to own your car outright or have the option to buy the car once a financing deal is in place. If you’d rather keep your cars for a long time or are concerned about mileage limits, it’s probably best to lease a car and choose a financing plan that better suits your needs.
What about bank loans and hire purchase?
Private bank loans and installment purchase agreements, where your monthly payments pay off the car in full with no optional final payment at the end, represent a small slice of the new car financing landscape. But a significant number of people still take these routes.
There are still a significant number of people who want to own the car and if that is important to you then you can certainly opt for an unsecured loan so that you have legal title to the car.
If you can already afford half the car, a bank loan may be appropriate, but it has become a less popular product over the past 30 years. If you choose a secured credit product like HP or PCP, it offers a lot more consumer protection. With a secured product, there is less risk, so the lender can generally offer you a lower interest rate because the safety of the car means less risk.
Are you still unsure whether leasing is right for you? Keep reading our complete guide Personal Contract Purchase (PCP) car deals explained