We use cookies to help us improve and protect our services. By continuing to use the site, you agree to our Privacy and Cookies Policy
Last updated on 11th of February 2022

Car Finance Vs. Personal Loan: Which Is Best For You?

Unsure about which finance option is best: car finance or a personal loan? This guide walks you through the pros and cons of each choice.
Instagram LinkedIn TikTok Facebook Twitter

Whether you're in the market for your first car or you are in need of an upgrade, finding the right car for you can be challenging. Financing the purchase can be even harder.

In the long term, buying a car with cash is usually the cheapest way to pay for your next set of wheels. 

You won't have to pay any interest. But paying such a large amount of money up front isn't a realistic option for everyone. 

For those who need affordable monthly payments or those who like to change the car they drive every year or two, financing can be a better option.

There are also personal loans. Instead of going down the car finance route, some people decide to take out a personal loan and use the money to pay for the car. 

So which option is best? 

Is a personal loan better than car finance? Is car finance cheaper? Let's take a look at the pros and cons along with some of the most common questions people have in the lead up to buying a car.

Is a personal loan better than car finance?

In some circumstances, a personal loan is better than car finance.

A personal loan can be cheaper overall than buying a car on finance, but the interest rate you'll get will depend on a number of factors including your credit score.

Here are some of the reasons a personal loan may be better than car finance:

You will own the car from the very start - since you'll use the loan to pay for the car, it will be all yours straight away.

The car won't be taken away if you fail to make repayments - but you may be charged a fee for missed payments. 

Repeated missed payments could lead to a CCJ and you may end up having to sell the car to pay back your personal loan.

You can use it to buy a car from a private seller - this could give you a greater choice of deals and save you money.

No mileage limits - owning the car from the start will mean you can drive it as much as you like without worrying about breaking any mileage restrictions. 

However, personal loans aren't perfect and some people may prefer to fund their purchase with car finance. Downsides of personal loans can include:

You'll need a good credit score to access the best interest rates.

Your monthly payments may be larger than they would be if you opted for PCP car finance.

The car's value will depreciate -  if you sell the car, you're likely to see a large difference between the amount you paid for it versus the amount you sell it for.

What are the main types of car finance?

Car finance is a term that's typically used to refer to a range of different products that can be used to buy or hire a car. 

The main types of car finance include:

  • Hire purchase (HP)

  • Personal contract plans (PCP)

  • Leasing contracts

Here’s a quick summary of each option:

Hire purchase (HP)

Hire purchase (HP) allows you to borrow a car from the lender until you’ve paid it off in full.

Usually, you'll need to put down a deposit to secure the car. By paying as much as you can upfront, you can often reduce the amount of interest you pay.

The loan is secured against the car, meaning it only becomes yours once you've reached the end of the agreement and have made all your monthly payments.

If you fail to make your repayments, the car may be taken by the lender. 

Personal contract plans (PCP)

A personal contract plan (PCP) is similar to hire purchase, but when you reach the end of the agreement you'll be able to choose between these options:

  • Return the car

  • Use the equity you've built up as a downpayment for your next vehicle

  • Buy the vehicle by paying the 'guaranteed minimum future value'

If you're really passionate about cars or you simply like to drive a new car every few years, this option can give you the flexibility you need. Unfortunately, this can work out to be quite expensive.

Leasing contracts/personal contract hire (PCH)

Leasing (also known as personal contract hire) works in a similar way to PCP except that you must hand the car back at the end of the agreement. It never belongs to you. 

You pay the dealer a fixed monthly amount for the use of a car, with servicing and maintenance included. 

You’ll be given a mileage limit and may have to pay a fee if you exceed it. 

By familiarising yourself with the types of car finance available, you can work out which one is best for you. 

As with many types of debt, your credit score will have an impact on the types of car finance available to you.

Pros and cons of car finance

So, what are the pros and cons of car finance?

Pros of car finance

  • You can pay an upfront deposit to reduce your repayments

  • Your monthly payments will be fixed

  • You'll have the option to own the car at the end of the deal 

  • You may have the option to return the car once your deal is over

Cons of car finance

  • You won't own the car at the start of the deal

  • Little repayment flexibility

  • Your car may be taken away from you if you fail to keep up with repayments

  • Not available when purchasing through a private seller

  • Some car finance deals come with mileage restrictions

  • You cannot modify the car during the deal

Car finance vs loan. Which is best?

The best option for you will depend on your credit score, income, the type of car you want to drive and how long you plan on keeping it for.

If you have a good credit score and a lender will approve you for a personal loan with a low interest rate, a personal loan may be cheaper than car finance.

Monthly cost comparisons

To work out who wins the fight between car finance vs loan, it's a good idea to do some monthly cost comparisons.

  • How much will the car cost you from month to month? 

  • How much will it cost you over the course of a year? 

  • What about the cost over the vehicle's lifespan?

These comparisons need to include the deposit, amount you'll spend on interest and any associated fees that could occur.

Thinking about the longevity of the car can be a smart way to calculate its total value - even though it might be difficult to say for certain how long you'll keep it. 

Let's imagine you take out a small personal loan to pay for an old car from a private seller. 

If the car lasted you 18 months but had repeated issues due to its age, this could work out more expensive than some car finance deals over the same period.

You might also want to factor in how much you could potentially get if you were to sell the car, whether you bought it outright or have reached the end of a hire purchase contract. 

Compare quotes

Using this information, compare quotes from different providers until you find the best deal.

It's important to note that applying for multiple lines of credit in a short space of time can have a negative impact on your credit score - especially if your application is rejected. 

So avoid making several applications within the space of a few months.

If a lender carries out a 'hard credit check', this will leave an imprint on your credit report which can be seen by other lenders. 

If, however, the lender agrees to carry out an initial 'soft check', this can give you an idea whether your application will be accepted. It won't leave a mark on your credit report.

There's more to cars than cost alone

While the cost of your car is important, there's more to buying a vehicle than money alone.

Consider how important it is for you to legally own the car and whether you'll want to change to a different model in a few years' time.

Unfortunately, if you have a bad credit score or your income is very low, you may have limited options. 

To improve your chances of accessing better car finance deals or personal loans in future, take a look at our guide on how to improve your credit score.