Personal Contract Purchase (PCP)
Personal Contract Purchase (PCP) is similar to a Hire Purchase agreement as you will usually pay an initial deposit, followed by monthly instalments.
The amount of the deposit is flexible, typically between 10% – 50% of the car’s price.
What makes PCP different is that it is a regulated agreement and your monthly instalments are paying off the depreciation of the car and not its entire value, over the course of the term.
When you reach the end of your agreement, there is a final, Guaranteed Future Value (GFV) payment that must be made if you want to keep the car.
How does PCP actually work?
At the start of your PCP contract, a Guaranteed Future Value (GFV) of the car is set based on agreement term and projected mileage per annum. This is the car's expected value when your contract ends.
For you, this means that the money you’re repaying is the difference between what the car is worth now and what it will be worth at the end of your contract (the depreciation) plus interest, which is calculated on the full value of the vehicle. You'll pay this difference off in monthly instalments.
Remember: you are still liable for the full amount of the vehicle if anything happens to the car or if you settle early.
This means lower monthly payments for you; however, you will need to pay a final payment at the end (the Guaranteed Future Value) if you wish to keep the car.
Once you reach the end of your payment schedule, you’ll have three options:
1. Buy the car by paying the final balloon payment (the Guaranteed Future Value).
2. Hand the car back - your finance company has already predicted the Guaranteed Future Value of the car, so handing the car back will settle the deal.
3. Part-exchange for a new car.
Pros
- Monthly payments on a car financed by PCP are usually lower than if your car is financed by a Hire Purchase agreement.
- If you decide not to buy the car, you can simply walk away when you've made all the payments.
- Similar to LP, you can drive away a new or used car every few years (dependent on the chosen term) without worrying about selling it on.
- If your car is worth more than the Guaranteed Future Value then you can use that equity towards a deposit on a new car.
Things to bear in mind
- If you want to buy the car you will need to pay your final balloon payment (the Guaranteed Future Value).
- When setting you parameters for your agreement, you will need to agree on a mileage allowance at the beginning of your contract and there may be excess mileage charges if you exceed this.
- You won’t be able to sell the car without settling the finance.
- You won’t own the car until you have made all of your repayments, including the option to purchase fee.
- You’ll need to keep the car properly insured, maintained and in your possession until the full value is paid off.
Can I settle my PCP early?
You can ordinarily settle your agreement early, however the finance company will require you to pay off the difference between what your car is worth now, and what you still owe (in the case of this being more than the vehicles value, this is called negative equity). On the other hand, you may find that at the end of your term your car is worth more than the Guaranteed Future Value, which means you’ll have some positive equity to contribute towards your next car.
Business Contract Hire
Also commonly referred to as ‘car leasing’, business contract hire is popular with various types of fleets and is exclusive for companies. Business contract hire agreements allow a company to take on cars for a set period of time (usually between 12 months and four years) and pay via fixed monthly instalments.
The company taking out the agreement doesn’t own the vehicles however, so when the term of the contract is over, the cars are returned to the lease company.
How does it work?
It’s important to understand how your payments are determined.
The contract hire company will work out the ‘residual value’ of the vehicle – that is its value at the end of the contractual period once depreciation is taken into account. To estimate this value, the company will ask you to stick to a strict mileage limit while you drive the car, and exceeding this limit could see you penalised at the end of the term.
To determine your payments, the company will deduct the estimated residual value from the retail price of the car, leaving you pay the difference in monthly instalments.
There are many different pros and cons of contract hire, and what may suit one business won’t necessarily suit all
Pros
- Low initial payment - Unlike other forms of finance, business contract hire requires three monthly payments upfront.
- Fixed monthly costs - For a set monthly payment, your business gets the use of a vehicle for an agreed duration and mileage that suits your needs.
- Hassle free - For an additional monthly fee, you can ask your business contract hire company to take care of nearly every hassle associated with vehicle ownership, whether it is maintenance, servicing or replacement vehicles.
- Free up capital - Business contract hire is an efficient way of running a fleet of vehicles. Rather than tying capital up in depreciating vehicles, the company is able to invest in other areas of the business. Vehicle leases do not have to be shown on a balance sheet, which will improve a company's liquidity ratio, gearing and return on assets.
- Tax advantages - Some or all of the rental charge can be offset against taxable profits. This includes 50% of the VAT on contract hire payments and 100% of VAT on a maintenance package.
Things to bear in mind
- Early termination costs - You can terminate a contract early, but it can be expensive to do so. The cost depends on how much of the contract is left to run.
- Excess mileage charges – It’s wise to have an accurate idea of the vehicle’s annual mileage requirement. If you underestimate you could face additional charges should the agreed mileage limit is exceeded. If you overestimate, you’ll be paying a higher monthly fee than you actually need to.
- No option to buy - Unlike some forms of business car finance, there is no option to buy at the end of the contract.
- Damage – If the vehicle is returned with damage beyond fair wear and tear, you may incur repair charges. However, there are established industry Fair Wear and Tear Guidelines from the British Vehicle Rental and Leasing Association (BVRLA).
