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What Should I Know Before I Apply for a Car Loan?

You’re dreaming of your next car - we know the feeling. Right now, you're probably swimming through all of the different decisions and steps required to get that dream car, and it is daunting. Is it really the right car for you? Will you regret your decision? Is it expensive to run? Are its parts affordable to replace? Argh, so many questions… 😱 And that’s not even considering the most important one: how on earth are you going to pay for it? 😳

Car finance is most likely the most strategic answer to purchasing your next car. This will probably make you wonder... Should I get a car loan? Should it be through my bank? What type of car loan do I need? Well, there are some important things to consider before you apply for a car loan. First of all, you can make sure you’re fully prepared for your finance application by understanding the process and its requirements. Let’s talk about the many things to think about before applying for car finance. 

What Are the Different Types of Car Loans I Can Get?

Though you might not have encountered all of these, there are actually several different routes you could choose to go down when financing your next car. We’re going to be talking about the three main ones: Hire Purchase (HP), Personal Contract Purchase (PCP), and Personal Loans. Let’s dive right in. 

What Is a Hire Purchase Loan (HP)?

Hire purchase basically means that when you purchase the car, it’s not actually yours until you’ve paid for it in full. You’ll actually be hiring the car from the lender, because of the fact that the loan is secured against the vehicle itself. It’s one of the most common types of car finance, so don’t hesitate to go for this option! 

You’ll be able to pay a deposit upfront and then a set amount of monthly payments over an exact length of time. The bigger the deposit you make, the less you’ll have to pay per month. Once you have made all the monthly payments to cover the whole loan, the car will belong to you and the agreement will be over. You can also pay the outstanding balance of the loan at any point by agreeing to a settlement balance with your lender. However, different lenders make that more or less effortless. 

Here at Carmoola, for example, one of our priorities is to adapt to you throughout the course of your loan. You’ll be able to change your monthly payments and settle your balance at any point in time. It’s as easy as that! If you want to learn more about our powerful car financing app, click here. 

What Is a Personal Contract Purchase (PCP)?

Similar to a hire purchase agreement (HP), when you take out a Personal Contract Purchase (PCP) loan, you’ll have to pay a deposit and then pay a fixed amount of money every month. However, the difference is that once you’ve paid back the loan in full, you’ll have to choose between two different options:

  • Hand the car back to be able to use the equity as a deposit for your next car
  • Get ownership of the car by paying the balloon payment, also known as Guaranteed Minimum Future Value (GMFV)

Do be aware though that a PCP loan has a few drawbacks you might want to consider. First of all, you’ll be charged for any extra miles or any slight vehicle damage than what is stipulated in the agreement if you end up wanting to give the car back once you’ve paid off the loan. If, on the other hand, you decide to keep the car, you’ll have to pay a fee (the GMFV). You’ll also have to pay interest on this GMFV fee in your monthly payments, even if you don’t want to keep the car at the end of the agreement. 

What Is a Personal Loan?

People usually take out personal loans with a bank or other finance companies. These personal loans are also known as unsecured loans because they are not secured against vehicles. This means that you’ll be able to sell the car at any time without having to ask the finance company beforehand. This is because you’ll own the car fully as soon as the car dealer or marketplace receives the money for it. Reputable personal loan finance companies include: 

However, if you have a poor credit history you might not be able to get a personal loan. You’ll also have trouble finding a provider for loan values upwards of £25,000.

What Do You Need to Apply for a Car Loan?

First of all, before you start entering the car finance process, it’s best to get all of the documents needed together so you don’t end up having to scramble for things at the last minute. It’s also important to see which documents are needed for each different type of loan, so that’s exactly what we’re going to be looking at! 

The Documents Needed for Hire Purchase (HP)

In order to take out a hire purchase loan, for most lenders (Carmoola asks for a little less than this - you can check out more here ) you will might need:

  • Your personal details, like proof of your marital status and number of dependants
  • Your address details for the past five years
  • Your employment details over the last three years
  • Your bank details (those of the account you’ll be setting the direct debit up with to pay the monthly loan amount)
  • Proof of your monthly income and spendings 
  • A photograph of your ID, which could be a driving licence or a passport
  • A proof of address, which could be your recent utility bills for example. 
The Documents Needed for Personal Contract Purchase (PCP)

In order to take out a personal contract purchase loan, you will need to gather:

  • Your personal details, like proof of your marital status and number of dependants
  • Your address details for the past five years
  • Your employment details over the last three years
  • Your bank details (those of the account you’ll be setting the direct debit up with to pay the monthly loan amount)
  • Proof of your monthly income and spendings 
  • A photograph of your ID, which could be a driving licence or a passport
  • A proof of address, which could be your recent utility bills for example. 
The Documents Needed for a Personal Loan (PCP)

In order to take out a personal loan, you will need to gather:

  • Your personal details, like proof of your marital status and number of dependants
  • Proof of your monthly income and spendings 
  • Your address details for the past five years
  • A photograph of your ID, which could be a driving licence or a passport
  • A proof of address, which could be your recent utility bills for example. 

Car Finance: What Are the Important Things to Know?

Now that you know how to prepare for purchasing your car on finance, let’s talk about some of the most important car finance implications, starting with credit scores. Taking out a loan, as always, involves the question of credit scores, in the UK. What about car loans? How do they affect your credit score? Do you need a good credit score in order to take out a car loan? Let’s explore. 🕵️

Does Car Finance Affect Your Credit Rating?

If you live in the UK, you most likely have a credit score, unless you’ve never made any purchase or haven’t lived here for long. Different companies, known as credit referencing agencies, calculate and provide credit scores, and their purpose is to inform lenders as to whether it would be risky to give you a loan. 

Lots of different things have an impact on your credit score, but with car finance, there are two main aspects that could affect it: applications and repayment. 

When you apply for a loan, your lender will do a full credit check in order to find out if you are a suitable candidate. This means that every time you make an application, a footprint will be left on your credit score. That is unless you apply for a decision of principle with your lender, which only involves what we call a ‘soft check’, so no impact on your credit score. 

That’s why we advise you to use our app which has tools like a loan calculator to check things out before you’re sure you want to buy a certain car. Finance providers don’t like risk, so by applying multiple times for different loans, you might be showing you’re uncertain and doubtful about your capacity to take out a loan. 

Now, when you do manage to get a loan and make every repayment of that loan on time, this will actually make your credit score go up. Why? Because you’re showing lenders that you're capable of repaying a loan throughout a period of time. However, if you miss payments, your credit rating can be really badly damaged. As a result, you might suffer from higher interest rates in the future, according to how much of a risk lenders suspect you to be. Worse still, you may even struggle to find a company willing to offer loans for low credit scores. So, yes, car finance does affect your credit rating. 

It Will Be Easier With a Good Credit Score

Let’s cut to the chase: in most cases, the higher your score, the better your chances will be of getting financing for a car purchase. Indeed you might be offered a lower interest rate. UK car finance companies use credit reference agencies like Experian, TransUnion, or Equifax to know what your credit score is. However, each lender may have its own way of evaluating your application, and while your credit score is important, it’s not the only factor lenders consider. 

If you don’t have a very good credit score, don’t be discouraged. You may be rejected by some car finance companies but there are lenders that specialise in providing credit to car buyers with low scores. Sometimes using a car finance broker might be helpful in finding an appropriate lender for you. One downside though is that they may charge higher interest rates or require you to have a guarantor with a strong credit record. So, all in all, it will be easier and more affordable for you to get a car loan if you have an excellent credit score. 

The Bottom Line

We have gone over some of the important things you need to know before you take on a car loan. Our advice is to only apply when you think your chance of getting approved is high. Gather the documents you need to submit beforehand and also try making sure that you meet the requirements of the car finance company, so you’re not risking a blow to your credit score. Here at Carmoola, we love helping our community navigate through the world of car finance to make purchasing your next car a walk in the park! Contact us if you need advice or a chat about car finance 😋

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