Should I Finance or Pay Cash for a Car?

You've gone to the car dealership and want to buy a car. The salesperson has given you the smooth talk about how great the car you've just test-driven is. They’ve told you the price after giving you the "I wish I could give you a discount, but this is the lowest price I can do" line. It's above your price range, but you really want it. The salesperson then suggests financing the purchase: Car Finance.

Car finance? What’s that? Don’t worry we’ll get to that shortly.

Back to the scenario...

The repayments are only £275 per month, so you’ve worked out that you can afford that. You think, "You’ve twisted my arm; let's go for it". They've even thrown in some free floor mats... who could resist that offer?

You get approved for car finance, of course. You have an excellent credit rating, and you've always been good with money. Anyway, back to that question again.

What is car finance?

Car finance, in simple terms, is the borrowing of money to purchase a vehicle.

However, the critical part is that the borrowing is attached to the vehicle. This means the car does not belong to the purchaser until all the finance is cleared.

When people take out car finance and acquire a "new ride, " they naturally tell others that their new car belongs to them. Some might even post it on social media with a caption:

"Just splashed out on this new toy."

They receive congratulations from their friends about how they deserve this. All their hard work has paid off!

What they miss is that the car does not belong to them!

The finance company owns the vehicle and will remain so until every penny owed to it has been paid.

If the person does not make all the payments, the finance company can repossess the vehicle.

Strangely, these facts don't appear in that same Instagram post.

It doesn’t have the same impact when you read that.

That’s why it’s essential to understand the difference between an asset and a liability. In a nutshell, if something makes you money, it’s an asset. If it costs you money, it’s a liability. When someone is congratulated for buying a car on finance, they are commended about taking on a liability. It's something to remember before pulling the party poppers.

Many people do not fully understand that they are essentially borrowing the car until the last payment reaches the lender.

This is very important to know, as any severe change in your financial circumstances that results in you not being able to make payments could result in you no longer having a vehicle and, in many cases, an outstanding debt to top it off due to a shortfall!

What are we talking about? Let's break this down:

Dean takes out finance on a £20,000 car. He makes each monthly payment as per his agreement for a while. Unfortunately, his financial situation takes a turn for the worse. Dean can't make the monthly payments for his finance agreement. The finance company continually contacts Dean, asking him to clear the arrears; otherwise, they will repossess their vehicle.

Dean can’t pay the arrears, so the finance company moves to repossession. After exhausting options to recover the money (per the Financial Conduct Authority Handbook), the decision is made to repossess the car. Within days, recovery agents are at Dean’s home. He’s asked to remove his belongings and hand over the keys. The vehicle is taken away. That's the end of the matter for Dean, right?

No, it’s not!

The finance company wants their money, not the car, so they send it to an auction to get a quick sale. The car sells for £12,000, and Dean’s remaining finance is £17,000. So, what happens to the remaining £5,000 from his car finance agreement? They aggressively pursue Dean for it, resulting in the finance company instigating court action to recover the debt.

Dean ends up without a car, a £5,000 debt, and a County Court Judgment (CCJ), which also affects his credit score. This isn’t how Dean imagined things would end when he splashed out on that new car.

Our opinion is clear: avoid car finance if possible. There are often better alternatives. These include:

1. Buy what you can afford: This is obvious and not what most people want to hear, but it works like a charm. You save up and buy a car that you can afford. This might feel like a buzz kill, but remember, it’s not a popularity contest. A car’s role is to take you from point A to point B, not about how flashy it looks. With this approach, you know the car is yours. If there is any downturn in your finances, your vehicle will not be at immediate risk. One less thing to worry about!
2. A Personal Loan: If you insist on buying a car that is out of your budget (i.e., you are determined to obtain some form of borrowing, which we suggest you avoid). You may be better off obtaining an unsecured personal loan to buy the car. If you run into financial difficulty, the vehicle is not at immediate risk because the loan is not attached to the car. You can also manage your payment difficulties without the immediate threat of your car being repossessed.

The Real Debt Guy is a qualified financial adviser and a UK debt expert. The information in this article is considered to be true and correct at the publication date.