What is PCP?

The most flexible way of buying a car on finance: PCP explained

BuyaCar team
Jan 16, 2018

What is PCP?

Personal Contract Purchase (PCP) is the most popular type of car finance because it offers fixed, low monthly payments and plenty of flexibility at the end of the agreement.

Your repayments only cover part of the car's cost, which makes monthly PCP instalments cheaper than some other types of finance. Used cars are available for less than £100 a month with PCP.

Agreements typically run for between two and five years. At the end, you can hand the vehicle back with nothing more to pay. Or you can buy the car by refinancing or making a one-off payment. Depending on the car's value, you'll often have a third option to trade it in for another one. This can can cover the deposit on a new finance agreement.

 The deals usually come with a mileage limit. You'll be charged for exceeding this, as well as for any excessive damage, if you hand the car back.


PCP: Good for

✔ Low monthly payments & incentives
✔ Range of options at the end of the deal
✔ Regularly upgrading to a new car
Protection if your car loses more value than expected


PCP: Not so good for

✘ High-mileage drivers
Used cars over five years old
✘ New car buyers who know they'll return the car at the end



PCP car finance: how it works

  • 1. You may need to pay a deposit but many PCP deals don’t require one
  • 2. Choose how long you want the PCP deal to last (usually between two and five years). You’ll then make a set monthly payment until the end.
  • 3. At the end of the contract, you have three options:
    - Return the car with nothing to pay - even if it's worth less than expected.
    - Keep the car by paying a lump sum, known as the balloon payment or guaranteed minimum future value (GMFV).You can refinance to spread this cost.
    - Trade the car in for another one. If it's worth more than the balloon payment, then any good car retailer will use the difference towards a deposit on another finance deal, helping to lower your next set of payments.


Used car PCP

PCP is available on new and used cars up to four or five years old. In both cases, finance incentives often apply, with deposit contributions available.

Older cars are not normally available with PCP because it becomes difficult to predict their value at the end of the agreement, so the monthly instalments and balloon payment can't be calculated accurately. In these cases, Hire Purchase finance (HP) is usually offered, which spreads the total cost of a car across a series of fixed monthly payments. You will then own it at the end.



How do I make PCP affordable?

  • Your PCP repayments are based on the difference between the car's price at the start of the agreement and its estimated value at the end (the Guaranteed Minimum Future Value). This difference, minus the deposit, is divided into equal monthly instalments and interest is added. In-demand cars that hold their value well tend to come with relatively low monthly payments because the difference is smaller, although the balloon payment is higher should you choose to buy the car.
  • Low interest rates - especially 0% interest - play a big part in keeping costs low, particularly with PCP because you are charged interest throughout the agreement on all of the outstanding debt. This includes the large optional balloon payment, which racks up interest charges throughout the repayment term.
  • A bigger initial deposit results in lower monthly payments and reduces your interest charges. Opting for a longer PCP deal (such as five years instead of three) will also cut your monthly payments, although you’ll pay more interest over the course of the agreement.
  • You can reduce the overall cost of PCP at the end of the agreement if your car is worth more than the final balloon payment. By returning the car, you will effectively be overpaying (when the finance company sell it on, the proceeds combined with your earlier repayments will add up to more than they were owed).
    Instead, you can trade it in for another vehicle using the difference between the car's value and the balloon payment for the deposit on another finance agreement. Alternatively, if you had the cash available, you could make the final balloon payment and then sell the car for its true value, leaving you with more money for your next car than if you had just handed it back.



PCP vs HP  &  PCP vs PCH


PCP deals are most likely to benefit from incentives such as deposit contributions or low interest rates, so there is always a chance that they will be cheaper than other forms of finance, bank loans and even using savings.

That's not always the case though. If you want to own the car at the end of the agreement, then Hire Purchase (HP) finance may be a cheaper option in the long run because you pay off larger instalments, which reduces the cost of interest. That only works if you can afford the higher monthly cost. You would be left owning the car at the end, so you feel the impact if the car drops in value unexpectedly, and are responsible for selling it or trading it in when you want a different model.

If you know that you’ll hand the car back after the finance term, then a personal lease (PCH) could be cheaper. Leasing is only really offered on brand new cars and doesn't offer the flexibility of PCP, so there's no guaranteed option to buy the car if you want it.

It's easy to compare different types of finance deals because you should be told the total amount that's payable over the course of the agreement. With PCP, this normally includes the optional final balloon payment.


How are PCP payments calculated?

All of the payments in a PCP deal depend on the final balloon payment - the guaranteed minimum future value (GMFV). This estimate of how much the car will be worth at the end of the agreement, and is based on industry data.

The deposit and monthly payments then cover the value that the car loses during the term - also known as depreciation. You pay interest on all of the money that you borrow, though - including the final balloon payment.

The GMFV means that you don't have to worry about the car depreciating faster than expected. If it's actually worth less than the estimate at the end of the agreement, then you can still walk away with nothing to pay.

However, the car is often worth more - because most GMFV estimates are on the low side. As long as this is the case, this opens up the option for you to trade the car in, with the difference between the car's value and the final balloon payment going towards the deposit on a new finance agreement.


How does PCP trade-in work?

Instead of returning the car and walking away, you can trade it in and drive away in a new model. As long as the car you're trading in is worth more than the final balloon payment, then the difference can go towards a new finance agreement. It often covers your entire deposit, so there may be no need to dip into your savings.

That money hasn’t appeared out of nowhere - you’ve funded it through your monthly payments which were based on a very cautious estimate of your car's future value.

If you’re looking to finance another car, then this trading-in is often the best option because it's common for cars to be worth more than the balloon payment. But bear in mind that this isn’t guaranteed. A particular risk is an economic downturn, when demand for cars may reduce. This will lower the value of used cars, and may mean that your car is worth no more than the guaranteed future value.


Can I trade in my car with a different seller?

Yes. Few sellers will want to miss out on your business. You can usually trade the car in with a different seller or manufacturer at the end of your PCP deal. They will ensure that the finance is settled, and will be able to use any surplus in the trade-in value as a deposit. They may even value the car more highly, giving you a bigger deposit for your next vehicle.


Can I end my PCP contract early?

Yes. Whether you want a different car or are looking to reduce your payments, you can return your car early. If you are near the end of the agreement, then your vehicle may be worth more than your outstanding debt. In this case, you may be able to hand the car back with nothing else to pay. It might also be possible to trade your car in for another one; any difference between your car's value and the amount that you still owe can be used towards the deposit.

In the earlier stages of your PCP agreement, your car is usually worth less than the amount that you still have to repay. In this instance, you'll need to pay a settlement fee to plug the gap. This fee, combined with the money that the finance company can make from selling your car, will cover the remaining debt.

If you find that your car is worth substantially less than you expected and there's a large settlement fee, then you may want to continue your monthly payments until the end of the agreement, when you can hand the car back with nothing moe to pay - whatever its value. Alternatively, you could choose another car and take out negative equity finance, which spreads the cost of the settlement fee and your new car in one monthly payment.

Other solutions are available if you are struggling to make your payments; your lender will be able to discuss your options.

Another option allowed under law is voluntary termination. Once you have paid off half of the total amount owed, then you can hand the car back and walk away with nothing more to pay. However, because the total amount owed includes interest, fees and the final balloon payment, you're unlikely to get to this point until quite late in your agreement. You could activate voluntary termination by making a one-off deposit that takes your repayments up to the 50% mark. 

It's also possible to repay your PCP early. This will usually save you money overall on interest payments but you'll typically have to pay an additional fee that covers some of the interest that the finance company is missing out on.


What happens if a car on PCP is worth less than expected?

One of the biggest benefits of a PCP agreement is that it offers total protection against a sudden and unexpected drop in car values. Once you've made all of your monthly instalments, then you can just hand the car back with nothing more to pay, even if it's worth thousands of pounds less than its Guaranteed Minimum Future Value (GMFV).

However, an unexpectedly low valuation will limit your options at the end of a PCP agreement. If the car is worth less than the GMFV, then you won't be able to trade it in; you'll need to find the money for a deposit towards another car, or opt for a no-deposit agreement.

Buying the car also doesn't make sense as the cost would be the GMFV - more than the car is worth. You'd be better off handing the car back and buying a similar model that's on the market for an accurate - lower figure.


What happens if I crash a car on PCP?

One of the conditions of taking out a PCP agreement is usually that the car is covered by fully comprehensive insurance. This would ensure that any repairs are paid for.

If the car is written off, then the insurance would normally pay out for the value of the car at the time. This would go to the finance company, which is the owner of the vehicle during the PCP term.

However, if the car has lost a lot of value soon after you bought it - which is often the case with new vehicles - then it may be worth less than the amount that you owe to the finance company. You would have to make this difference up, so you can take out guaranteed asset protection (GAP) insurance to pay for this.

If your car is less than a year old, then it may benefit from brand new replacement cover, which is often included in insurance policies. This covers the cost of replacing your vehicle with a brand new example, which is likely to clear your debt.


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