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Personal Contract Purchase (PCP) is a popular way to finance a car. We'll guide you through what it is, the pros and cons and whether it might be right for you.
Published: 20 September 2023
Personal Contract Purchase (PCP) is a type of car finance agreement that spreads the cost of buying a car over several years, or allows you to simply drive it for the length of the contract but then hand it back to your lender.
PCP could be a good choice for you if you like to change your car often, and you have various options at the end of the agreement. Here we look at how PCP works and list its pros and cons.
PCP is a type of car finance. With PCP you pay an initial deposit, then monthly payments and an optional final payment if you want to own the car outright.
You’ll usually make fixed monthly payments, including interest, for a period of between 24 and 48 months to cover however much the car falls in value during the contract period.
At the end of a PCP contract you have three options. First, you can pay a final so-called ‘balloon payment’ plus a small option-to-purchase (OTP) fee to own the car. Second, you could exchange the car for another model and apply for a new PCP agreement. Third, you could hand back the car. You won’t pay additional charges unless you’ve broken your contract’s terms and conditions, such as going over your annual mileage allowance or you’ve damaged the car beyond normal wear and tear limits.
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PCP can seem complex, but let’s break it down into three parts – your deposit, your monthly payments and what you choose to do at the end of the agreement.
Your deposit. This is usually around 10% of the car’s value – you can put down more if you wish, but a deposit cannot exceed 40% of the car’s price. This isn’t a refundable deposit of the kind you pay when renting a car or a property – it’s simply an initial payment at the start of your PCP agreement that dictates what your monthly repayments will be. The larger the deposit, the smaller your repayments. Your deposit may be paid in cash or by trading in your current car.
The amount you borrow. This is based on how much value the car is predicted to lose in depreciation over the term of the PCP agreement. Over the term of the contract, you’ll pay off this amount plus interest. For example, if a car is now worth £15,000 but in three years’ time it’s value is expected to fall to £9,000, your monthly payments will total £6,000 plus interest. The interest rate should be clearly shown on your agreement listed as an APR.
Balloon payment. This is also known as the guaranteed minimum future value (GMFV). This is how much the lender estimates that your car will be worth when your PCP deal ends. The amount depends on several factors, including the car’s make and model, its age and mileage, and the length of your agreement.
When your contract ends, you can simply hand back the car and walk away, or start another PCP deal. If you make the balloon payment and pay the OTP fee, you’ll own the car outright. If the value of the car at the end of your agreement is higher than the balloon payment, you have ‘positive equity’ and you could put the difference towards a new PCP deal, depending on your circumstances.
If you choose to buy the car at the end of the PCP deal, you’ll pay an option-to-purchase (OTP) fee, which is usually about £10 but could be as much as £200, on top of the balloon payment. This OTP fee also covers transferring the ownership of the car from the lender to you.
To see if you qualify for PCP finance, the lenders will look at your credit score and a hard credit check will be carried out.
A good credit score increases your chances of approval and the likelihood of a more competitive interest rate. You’ll also need to provide proof of your income to show that you can afford the monthly payments. You’ll usually need to be at least 18 years old and a UK resident to qualify for PCP finance.
Generally lower monthly repayments than with hire purchase (HP) or a personal loan
Flexible, with options at the end of the contract
Can make a more expensive car more affordable
No need to worry about the car’s depreciation during the term of the agreement
Positive equity if your car is worth more than its GMFV
You won’t actually own the car during the contract period
You will need to stick to the contract’s terms and conditions (such as mileage limits) or face additional fees
Could cost more than other forms of car finance if you want to buy the car at the end of the deal
You may need a good credit rating to get a PCP agreement
Applying for a PCP will leave a hard credit check whether or not your application is accepted.
PCP differs from HP, the other main car finance option, in several ways. Monthly payments are generally lower than with HP, because you’re deferring paying for a large part of the car’s value until the end of the contract, if you choose to pay the ‘balloon payment’.
You can read our detailed guide to the difference between PCP car finance and HP car finance here.
It can be easier to get accepted for a PCP agreement than for a personal loan because a PCP is secured on the car. It means that, if you fail to make payments, the lender can simply seize the car.
When you apply for PCP finance a hard credit search takes place, which shows up on your credit score and can be seen by other lenders. Making several applications in a short space of time can have a negative effect on your credit score. If you have a bad credit rating you may be refused a particular finance deal, although you may still have other options.
Getting accepted for a PCP deal and making regular repayments could, however, boost your credit score because it shows that you’re financially responsible. But a failure to keep up with payments could reduce your score, affecting your ability to get credit in the future.
You can end a PCP car finance agreement early, provided you meet certain requirements. You may be able to do this by paying your loan off in full, if you’re within the first 14 days of signing up to the agreement (known as the ‘cooling off’ period).
Beyond the 14-day cooling off period, check the deal’s terms and conditions to see what fees you’ll have to pay to end your contract early. You’ll have to get a settlement figure from the lender and if you pay this, you’ll own the car outright.
There are several factors to consider to help you decide if PCP is right for you. Make sure you can afford the monthly payments, and any additional costs. If you plan to drive long distances, check the mileage restrictions on the contract.
If your priority is lower monthly payments and you don’t necessarily want to own the car at the end of your agreement then PCP might be a good choice for you. If you want to change your car in a few years’ time, PCP could be an affordable way to finance this.
If you're keen on keeping the car for many years, however, you may be better off with an HP deal or a personal loan. And if you’re unlikely to pay the balloon payment to buy the car at the end of the deal, you could also consider a leasing agreement.
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