Business Personal Finance

Wednesday 21 August 2019

Take the shorter route on the road to financing your next car

The key to saving thousands on a car is to select the most effective finance option, writes John Cradden

If cost is your biggest issue, it is worth looking more closely at the way you choose to finance your next car
If cost is your biggest issue, it is worth looking more closely at the way you choose to finance your next car

John Cradden

If you need to change your car, walking into a main dealer and choosing a shiny new model with a 192 plate can be very tempting, thanks to speedy and convenient car finance options with what look like attractively low monthly repayments. Indeed, these options, usually in the form of a hire purchase (HP) or personal contract purchase (PCP), might appear the only way many of us can get our hands on the keys to a new or nearly new model, particularly if you want to switch to a more expensive electric vehicle (EV) or ultra-low-emissions hybrid.

Of course, there are other ways to secure finance, and some of these can make more financial sense than others. But for many, the greater speed and convenience may well be a price they are prepared to pay.

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Yet if cost is your biggest issue, it is worth looking more closely at the way you choose to finance your next car. The right choice can, in turn, enable a philosophy of car-buying that can save you tens of thousands.

Dealer finance

PCPs have exploded in popularity over the past few years, to the point where they now account for nearly 40pc of car-related bank debt, according to the Central Bank.

They have often had a bad press because they are more complex than other loans, with several reports, such as from the Competition and Consumer Protection Commission, confirming that many consumers do not understand how they work.

You certainly need to know what you are signing up to. A PCP is a form of dealer car finance based on a hire purchase agreement, but the monthly repayments are typically a good bit lower than with an HP.

When you come to the end of a PCP repayment term, you have three choices: make the final payment to own the car; hand the car back and start a new contract on another new model; or walk away. With an HP agreement, you are committed to paying off the car in full. With either option, you will not own the car outright until you make that final payment.

The monthly repayments on an HP are usually higher because they are split more evenly over the term, rather than a series of small repayments with a large 'balloon' payment at the end, which is the case with most PCPs. Having said that, some HP agreements are still structured with small deposits at the beginning and large balloon payments at the end, so as to seem more affordable. So you will need to make sure you have enough to pay off this balloon payment, otherwise you might need to refinance it in some way if you want to keep the car.

Flexible option

If you can finance a car purchase with the help of a loan from a bank or credit union, the key advantage is that you own the car outright from the start, unlike with an HP or PCP, where you need to make a substantial balloon payment at the end of a contract for full ownership to become a reality. With a personal loan, you have the absolute flexibility to pick whatever make, model, trim level and colour you want. As a cash buyer, you are in a better position to haggle on the final price too.

Another plus is that you are not subject to any usage restrictions. With a PCP, there are usually annual mileage limits (typically 15,000-20,000km), and an obligation to make sure the car is serviced properly.

A further advantage with outright ownership is that if you run into financial problems, or get fed up with the car, or are planning a move abroad, you will be able to sell it, pay off your loan and move on.

There is more repayment flexibility with a personal loan that you do not get with PCPs or HPs, such as the option of making overpayments, or repaying the entire loan early, without penalty, thereby saving on interest costs.

PCPs and HPs do have a feature called the 'half rule', whereby you can walk away from a contract without penalty if you have already paid off more than half its value. But you will be walking away with no equity.

It is worth noting, however, that new car sales so far this year are well behind compared with the same period last year, which the motor trade here attributes partly to the sharp rise in used car imports from the UK, although Michael Rochford of car history checking website Motorcheck says that the Irish used market has always depended on a steady supply of stock from Britain.

"Some buyers will always opt for used, and some buyers will habitually change their car for a new model every few years, and then there are those that are transient and will opt for whatever is best-value," he says.

The figures would suggest more of these 'transient' buyers are realising that the steep depreciation that afflicts cars in the first few years of their life is something that can be avoided by buying an older used car that has already shed the bulk of its showroom value.

Dodge depreciation

So rather than saving up a deposit or trading in your old car against a new one on a PCP or HP, you could use whatever equity you have with a small personal loan to buy a three to five-year-old model.

This is certainly what Kildare-based financial adviser Bob Quinn would advocate: "As far as I'm concerned, buy at four years old and keep for three years; rinse and repeat."

This is based on the well-known maxim that a new car depreciates fastest in the first three to five years of its life. Depending on the make and model (as many popular models may depreciate slower than others), and condition, a typical four-year-old car might be worth just 40pc of what it cost when new. Quinn cites the example of a four-year-old 2015 Nissan Qashqai 1.5dci, which would have cost nearly €30,000 new, which is now available to buy used for around €12,000.

The first owners of that car, having kept it for 48 months and sold it for €12,000, will have essentially forked out €375 a month purely in depreciation, he notes. Add to that the AA-estimated typical running costs of a car (insurance, fuel, tax, servicing, etc) of €5,000 a year, or €416 a month, and those owners will have been paying a total of €792 per month just to own and run the vehicle.

"If I met you at the entrance to a dealer, before you met the sales guy, and I said to you, 'can you afford to spend €792 per month on the car you're about to buy?' what would your answer be?" asks Quinn.

But if you buy a four-year-old car for €12,000 and keep it for three years, you can expect the depreciation to be a lot less over the following three years. If the car was worth €6,000 at seven years old, the depreciation cost would be just €166 a month, he said.

Some 'bangernomics' advocates might take that a bit further and suggest buying a good seven-year-old car and selling at 10 years, because the depreciation 'curve' will have practically bottomed out at that age range.

"I would subscribe to that argument," says Quinn, who drives a 16-year-old VW Passat inherited from his late godfather, "but it's not an argument that would easily be won."

Yet he adds that the great thing about so many people buying new cars through PCPs, along with the supply of used car imports, is that there is now an excellent supply of good-quality three to five-year-old cars in the used market. "You'll save a ton of money because you're not trying to pay off that evil depreciation," he says.

One argument in favour of a new car on a PCP, however, might be the fast-changing evolution of EV technology, especially if battery technology continues to make huge strides over the next three years to the point where it makes today's EVs technically obsolete very quickly, thereby hitting their residual values. "With PCP, you can always hand the car back at the end of the term, and the potential fall in residual value then becomes the manufacturer or dealer's problem," said Rochford.

Sunday Indo Business

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