If you are looking to change your car, one of the best ways to fund the purchase is through car finance. By spreading the cost into manageable monthly payments, you can ensure you get a car that you actually want to own and drive, rather than just choosing something that you can afford to buy with the savings you have available. That can make a massive difference to the overall quality of the car you buy by making more options available.

But if you are new to finance as a whole, the process can seem a little bit confusing. Just how much do you have to pay for a car finance agreement? What sort of things can affect the amount you pay? And how can you reduce the amount of costs that you pay? Here’s our guide explaining everything you need to know about the cost of car finance.

How is car finance calculated?

The way car finance is calculated is based on three main factors. The first is the total cost of the vehicle you want to finance. Whether you are paying the entirety of the car’s purchase price, as you would in a hire purchase deal, or are paying for the car’s depreciation in value over the length of time of the car finance package, as you would in a finance package like a Personal Contract Purchase (PCP) product, this cost is effectively what the finance provider is lending to you for the finance agreement.

The second factor is the amount of interest charged on the amount you are borrowing. In all types of finance agreements, not just car finance packages, this interest rate is how the finance provider earns money from providing you with the finance to buy your car. The rate is assessed on a number of factors, but especially your credit rating. This is often divided into five categories: bad, poor, fair, good and excellent. 

The third factor is the length of time that you want to spread the cost across. The longer the agreement, the more interest will be charged. While you might think that a shorter agreement means you will be charged less interest, but finance providers will normally adjust the rate of interest they charged to compensate for any potential lost earnings on a short package.

There may be additional costs such as admin fees and processing charges, but it’s these three main factors that will result in the total cost of your car finance agreement:

• Amount of money you want to borrow
• Amount of interest charged
• Length of time you want to borrow the money for

How credit scores affect interest rates

When deciding whether or not to provide you with a finance package, the provider will first assess you to see how much of a risk you are to lend money to. They will only make money from you if you are able to make all the payments across the duration of the finance package.

The main way that any finance provider will assess the level of risk you are is through your credit rating. Your credit rating is based on your credit history. This is any money you have borrowed in the past, any missed payments or defaults, county court judgements (CCJs) or bankruptcies. If you have a clear history, where you have made all the payments on time and had no problems, you will get a good to excellent credit rating. The more problems or issues on file, the lower your credit rating.

You should be aware that it’s not just financial issues that can affect your credit rating. Another thing finance providers look at is your traceability. They want to know what you’ve been up to for the last few years, as if you only have information on a year or so, it could be a sign that you are trying to hide your history.

Your credit rating can also be affected by not having taken out credit before. Even if you have never had any financial issues at all, providers are uneasy about giving the best ratings to those who haven’t taken out a finance package before.

Typical monthly payments

Each of the different credit ratings have a different average interest rate. To find out what your typical monthly payment might be, why not take a look at the Creditplus Car Finance Calculator. The calculator works by taking a few basic details on you and the amount you want to borrow.

First, put in the amount of money you have to spend per month on a car finance package. Be honest with your monthly amount, as this is not easy to change once the agreement has been signed. And if you end up increasing the amount and paying the package off early, you could be facing some charges for doing so.

Next put in the length of contract. The longer the contract, the smaller the monthly payments will be. But this will also result in more interest being paid.

Then you have to select your credit rating. You can find this out by using one of the many credit score websites that will provide you with your rating for free. You can also contact your bank and they should be able to give you information on your credit file.

Finally, choose between the two main types of car finance products:

• Hire purchase – where you own the car at the end of the agreement.
• Personal contract purchase – where you don’t pay the cost of the car, but the depreciation in value over the length of the agreement.

Then click calculate, and you’ll get a good idea of what your finance will cost.

How to lower your monthly costs

There are two steps you can take to lower the amount you would pay monthly on a car finance agreement. The first is to increase the size of the deposit. The second is to look at improving your credit rating.

Before you apply for car finance, you should look at your credit rating and see what issues there are on the file. If you have an excellent or good credit rating, you may be happy to go with what you have. But if your rating is lower, you might want to take steps to improve your credit rating before applying – depending on how urgently you need to change the car.

The first thing you should do is look at any issues on the file. Make sure they are all accurate and correct, as it’s not unheard of for there to be a mark on your file that isn’t entirely accurate. If you do spot something that isn’t right, contact the credit agency and inform them of the issue.

The second thing is to try and ensure you have no outstanding debts or CCJs that need to be paid off. You may want to consolidate your outstanding debts into a single payment so you can reduce it much quicker and start repairing your file.

If you have never taken out a finance package before, it might be worth getting a credit builder credit card, something you only use to make controlled payments that will prove to a finance provider that you are a reliable choice as customer.

Another thing you can do is join the electoral roll. By registering to vote, you will be added to the UK government database and the finance provider will be able to see that traceability on your file.

While these steps aren’t always that quick, you can save a lot of money on interest rates by improving your credit rating, even if it’s just a small change. Improving your credit file will also improve your finances as a whole, so you will be able to breathe a little easier, even if you don’t end up going for a car finance package.

Why deposits are so important

All car finance packages are based on the amount you want to borrow. So by reducing that amount, you will reduce the amount the package will cost in total. The biggest way to do this is with a nice deposit. Your deposit will reduce the amount of money you need to borrow, and so the monthly payments are lower.

Whether you have saved some money or are part-exchanging an old vehicle, having a sizeable deposit is the best way to reduce the cost of car finance without changing your credit rating.

How to make depreciation work for you

If you are going for a finance package where you don’t own the car at the end, such as in a Personal Contract Purchase deal, then one of the ways you can reduce your monthly payments is through choosing a vehicle that doesn’t suffer much depreciation.

In short, depreciation is how much value a car loses across its lifespan. New cars are one of the biggest sufferers of depreciation, with some losing a hefty percentage of their value as soon as they leave the dealer’s forecourt.

In a personal contract purchase deal, you aren’t paying off the cost of the entire vehicle. You are paying the difference in value from the car at the start of the agreement to the car at the end of the agreement – the depreciation. So if you can find a car that won’t lose a lot of value across the length of time you want to borrow, you can save a great deal on car finance.

New cars are heavily affected by depreciation, so unless you are desperate for a brand new model, you should go for a nearly new or used vehicle. A search online can also tell you which cars are the best at beating depreciation. It does limit your options somewhat, especially in really new cars, but it will save you a lot of money on your finance package.

Choose a trusted provider

Another thing you should do is choose a trusted car finance provider. Before the start of all car finance agreements, all FCA (Financial Conduct Authority) approved finance providers will provide you with a clear breakdown of just how much you will need to pay during the agreement and of any fees that are charged.

This agreement will show everything, including the total cost of car finance. In a hire purchase agreement, this will include the total cost of the interest payments. In a PCP deal, this will depend on if you have a fixed or variable rate of interest.

The breakdown should also make clear any admin charges or processing fees that will be a part of the finance deal. If the provider you are getting a deal from doesn’t provide this, you might want to ask yourself why they haven’t been clear on the costs? You could end up with unexpected charges that add to the total cost.

Still not sure?

Car finance may seem confusing at first, but the FCA have worked hard to ensure that the power is now with the customers, not the providers. All finance providers have to give their customers detailed information on the costs of car finance and what requirements they need to fulfil. You won’t be surprised by hidden costs or unexpected fees, as long as you choose a company authorised by the FCA.

If you have questions about car finance, you should speak to one of the Creditplus customer consultants. As an FCA approved finance provider and ethical lender, we ensure that’s we provide all our customers with all the information they need to make the right decision based on their own personal circumstances. By comparing finance packages from a wide panel of lenders, you’ll be able to see at all the different options on offer before you decide which one is right for you. As an online car finance provider, you also get more protection with a 14-day money back guarantee.

You’ll soon have all the knowledge you need to ensure that you can take advantage of the benefits of car finance, and will soon be able to enjoy the fun part – choosing what car you want and then taking it for a drive!