What are the different types of car financing?

July 7, 2023

A range of car financing options are available for individual buyers and businesses alike.

These options not only facilitate the acquisition of vehicles for personal use but also provide advantageous solutions for companies in need of a fleet for their employees.

Types of car finance

Personal Contract Purchase (PCP)

PCP is a popular car finance option, allowing individuals to drive a new car at an affordable monthly cost.

PCP is regularly compared to a lease arrangement due to its similar structure and flexibility.

Under PCP arrangements, customers have the option to drive a new vehicle for a fixed period, typically between two and five years.

Customers must pay an initial deposit, followed by making monthly payments that cover the depreciation of the car rather than its full value.

At the end of the term, the buyer has the option to make a balloon payment to own the car outright or return it to the dealership and enter a new PCP contract for a different vehicle.

This option provides flexibility, as it allows individuals to change cars regularly without committing to full ownership.

However, PCP is treated as a lease for tax purposes where the balloon payment is optional and not compulsory and is equal to the value at the point that the payment is required.

This means you effectively lease a car for commercial purposes via PCP, in this circumstance, you can generally recover 50 per cent of the VAT charged.

The 50 per cent block on VAT recovery covers private use of the car. The block applies to all VAT associated with the fees paid under the leasing contract’s terms, including the deposit and regular lease payments.

When it comes to the Corporation Tax treatment of PCP, because these finance arrangements generally involve payments made during the hire period based on the vehicle’s expected depreciation over that period this form of finance meets the “below market value” requirement.

This means that the vehicle is recognised as a fixed asset and the company can claim depreciation/finance charges through the profit and loss statement, which makes them tax deductible.

Should the final balloon payment be less than the anticipated depreciated value, the appropriate approach might be to interpret the purchase as a lease-to-own arrangement.

In this scenario, the car would be considered an asset, making it eligible for capital allowance claims.

Personal Contract Hire (PCH)

PCH is a leasing arrangement where an individual pays a fixed monthly amount to rent a car for a specific period, usually between two and four years.

At the end of the lease, the car is returned to the leasing company and the individual can choose to lease a new vehicle or explore other finance options.

PCH is an attractive choice for those who prefer a hassle-free experience, as it often includes maintenance, road tax and breakdown cover, allowing drivers to enjoy a new car without the responsibility of ownership.

Hire Purchase (HP)

HP is a straightforward finance option, where individuals pay an initial deposit and then make monthly payments over a fixed term, typically between one and five years.

Unlike PCP, there is no balloon payment at the end of the term. Once all payments have been made, the buyer gains full ownership of the car.

HP is popular among those who prefer the simplicity of fixed monthly payments and want to own their vehicle at the end of the contract.

In the scenario that the car is considered an asset and is bought through HP, then the buyer will not be able to claim VAT on the purchase but instead will be eligible for a 100 per cent capital allowance claim.

Car financing provides individuals and businesses with various ways to acquire vehicles for personal or commercial uses.

Each financing option caters to different needs and preferences, allowing consumers to choose the best fit for their lifestyle or business requirements.

Are you considering financing a car for your business? Contact us for advice.

Further reading

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