What is hire purchase and how does it work?
If you’re looking for a new car but don’t have the cash to buy it outright upfront, then hire purchase could be a solution.
It’s estimated that over 90% of all new vehicles on the road are on finance. And the number of used cars isn’t too dissimilar.
Nowadays, more and more people are choosing car finance to pay for their car and hire purchase plays a big role in that.
Here’s what we’re going to cover in this article:
- What is hire purchase?
- How does hire purchase work?
- How are hire purchase payments calculated?
- When will I own the car?
- Can I change my car during the agreement?
- What are the advantages and disadvantages of hire purchase?
- What are the risks of hire purchase?
- What other car finance options are available?
- Used vs new car hire purchase
- Should I take out a hire purchase?
- How to get the best hire purchase deal
What is hire purchase?
Hire purchase, or HP, is a type of car finance that allows you to split the entire cost evenly over a fixed period.
Instead of paying the full price of the car upfront – which most people can’t do – an HP agreement breaks down that total into more manageable monthly chunks.
A hire purchase usually lasts between 36 and 60 months, depending on your preference and budget. And once you’ve made all your monthly repayments, you become the legal owner of the vehicle.
How does hire purchase work?
The process involved with taking out a hire purchase agreement is fairly straightforward and can be broken down into seven simple steps:
- Find the car you want
- Apply for finance
- Get approved and agree to your monthly payment
- Sign all your paperwork
- Take delivery of your vehicle
- Make your monthly repayments
- Become the legal owner of your vehicle after you’ve made your final payment
How are hire purchase payments calculated?
Hire purchase payments are fairly simple to calculate. It’s the total cost of the vehicle, minus any deposit, split evenly over your desired term, plus interest.
For example, if the vehicle you wanted was priced at £14,000, you wanted the agreement to last for five years, you didn’t want to make a deposit, and the fixed interest rate was 10.37% pa, the calculation would be as follows:
£14,000 (the cost of the vehicle) – £0 (the deposit you make) + interest ÷ 60 (five years in months) = £300.16
It’s also easy to find out how much interest you’re paying over the term. Look at the total price of the car (£14,000) and the total amount payable – which in this example is £18,009.60 – and work out the difference.
So, across the five-year agreement, you’re paying £4,009.60 in interest (£18,009.60 – £14,000).
When will I own the car?
At the end of your hire purchase agreement, you’ll have an option to purchase fee. This is usually a small cost to cover the admin of transferring the vehicle into your name.
Once that’s paid, you’ll then become the legal owner of the vehicle. Then, it’s yours to do with as you wish.
Can I change my car during the agreement?
Yes, even though a hire purchase agreement is designed so that you become the legal owner of the vehicle, you can still change your car at any time.
The further into the agreement you go, the more you’ll have paid and the higher chance of the vehicle being in equity. That’s where your car is worth more than you still owe on finance.
If that’s the case, and you decide to part exchange your vehicle, you can use the value of your car that exceeds what you still owe as a deposit.
For example, if your car was valued at £7,000, but you still owed £6,000, then you could use the extra £1,000 as a deposit after the finance has been settled.
However, it’s worth noting that it can also go the other way, whereby your car is worth less than what you still owe.
If that’s the case, and you want to part exchange your vehicle, you’ll either have to put down a cash deposit to settle the difference or add the remaining finance to your new agreement, which will increase the price of your new car.
Also, if your car is under a hire purchase agreement, you can’t sell it privately without first making the buyer aware there’s still finance tied to it. If you do, you’re breaking the law.
What are the advantages and disadvantages of hire purchase?
Like any financial decision, hire purchase comes with advantages and disadvantages, and it’s important to know what they are before you agree to your deal to make an informed decision.
Advantages of hire purchase
- Drive the car you want now, rather than waiting or saving
- Become the owner of your vehicle without a big upfront payment – all our cars come with a £0 deposit
- All payments are fixed, so you always know how much you’re going to pay
- Drive a more expensive car than you may otherwise be able to afford
- Hire purchase is the easiest type of car finance to be accepted for if you’re worried about your credit score
Disadvantages of hire purchase
- Monthly payments may be higher than a lease or PCP
- Hire purchase agreements usually last longer than other types of car finance
- You may end up paying a lot more for the car than it’s worth, depending on your interest rate
What are the risks of hire purchase?
Like any financial decision you make, you should be aware of the risks involved with hire purchase before you go ahead.
Pay more if you change your car frequently
If you never get to the end of your hire purchase agreement, you’ll likely end up paying more for the same car than you would have if you’d taken out a PCP or lease finance.
That’s because the monthly payments are smaller, and you only see the real financial benefit of a hire purchase if you decide to keep the car for a long time or sell it once it’s legally yours.
You could be left with debt if your car is stolen or written off
If your vehicle is stolen or written off, your insurance company will only pay out what your vehicle is worth on that day.
They don’t take into account any outstanding finance on the car. So, if your payout is less than what you still owe, you’ll have to make up the difference.
Some products can protect you against this situation, such as GAP insurance, which covers the difference between what your car is worth and what you owe so you can start afresh without extra financial burden.
You can add GAP insurance to your hire purchase when you start your agreement.
What other car finance options are available?
Hire purchase is just one finance option when it comes to getting your new car. Several others may work better for you.
Hire purchase vs personal contract hire
Personal contract hire, also known as leasing, is a low-cost, low-commitment way to drive the car you want.
Unlike a hire purchase – where you’re paying to own the car – with a lease, you never own the vehicle. Instead, your monthly payments cover the car’s depreciation while you drive it.
This usually leads to much lower monthly payments – as you’re not covering the total cost of the vehicle – and the agreement length is usually shorter, meaning you can change your vehicle more frequently.
However, if you want to own the vehicle outright at the end of your agreement, leasing isn’t for you because there’s never an option to take ownership.
Further reading: What is personal contract hire and how does it work?
Hire purchase vs personal contract purchase
Personal contract purchase (PCP) is similar to a lease – whereby you cover the vehicle’s depreciation during your contract – but it’s more flexible.
That’s because, at the end of your agreement, you have three options; you can hand the car back, pay the final balloon payment and keep the car or part exchange it for another.
So, PCP still gives you the option to own the vehicle outright at the end, as you do with hire purchase, but instead of splitting the cost evenly over your term, the monthly payments are smaller and for a shorter period. Then there’s a lump sum payment at the end if you want to keep it.
The advantage of PCP over hire purchase is that you don’t have to decide years in advance whether you want to keep the car or not. You can make that decision when the time comes.
However, if you do choose to become the legal owner, on PCP, there’s usually a substantial payment to make and it may end up costing you more overall compared to a hire purchase agreement.
Also, there are mileage restrictions during your term, whereas with hire purchase, there aren’t.
Hire purchase vs lease purchase
Another option if you’re sure you want to own the car outright at the end is to finance it with a lease purchase.
Like a PCP, you make smaller monthly payments than on hire purchase for a shorter period. But instead of having three options at the end, you have to make the final payment and become the vehicle’s legal owner.
Once you make the final payment – which is usually bigger than your monthly payments but can often be broken down into smaller chunks – the car is legally yours.
Further reading: What is lease purchase and how does it work?
Used vs new car hire purchase
Whether you want a new or used car is up to you and often what fits best within your budget.
Typically, a new car is more expensive than a used one; however, with a new model, you don’t have to incorporate the cost of an MOT for three years, and it’s usually under the manufacturer’s warranty – so you can avoid any costly repair bills.
But, with hire purchase, instead of having to worry about a difference of thousands of pounds in price, as you would if you were comparing the total cost of a new car versus the cost of a used model, it might be the difference of under £50 a month.
And because an HP agreement allows you to split the cost evenly over your set term, you may be able to afford a more expensive car than you thought.
So, even though it’s down to you on your preference of a new or used car, with hire purchase, you have more choice than you may otherwise have had if you were to buy outright at the start.
Should I take out a hire purchase?
Only you know whether hire purchase is the right type of car finance for you.
However, if you’re sure you want to own the vehicle at the end of your agreement and want fixed monthly, manageable payments without a high upfront cost, then hire purchase is the right finance type for you.
How to get the best hire purchase deal
Getting the best hire purchase deal isn’t necessarily always about the lowest monthly payment. It’s about what fits your circumstances.
However, there’s a simple way to judge what the lowest cost deal to you is, and that’s by shopping around and getting accurate quotes.
Once you have personalised deals, you can compare the cost of finance (the difference between the price of the car and your total amount payable – essentially, how much interest you’re paying).
The lower that figure is, the less it’s costing you to finance the car.
However, when you’re shopping around for the best deal, make sure that the dealer you’re using only uses soft credit searches.
That’s where they use your details to find the right lender for you and give you an accurate quote without affecting your credit score.
As, if the search isn’t soft – also known as a hard search – it’ll leave a note on your credit file. And if you have too many of these in a short space of time – usually three in a year – it’ll start to damage your credit score.
It may also put finance companies off lending to you, as in their eyes if you’re making lots of credit applications in a short space of time, you may appear desperate.
How do I take out a hire purchase deal?
It’s easy to determine whether you’ll be accepted for a hire purchase agreement without affecting your credit score.
By clicking check your eligibility below and filling in our short form, we’ll work with our large panel of lenders to find you the best deal.
And because all our initial checks are soft, you can find out whether you’ll be accepted in minutes without harming your credit file.