Paying off your car finance early

Whether you're in a PCP or a hire purchase deal, paying off your car loan early probably won't come cheap. But if you can afford it, you may save on interest.

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When you bought your car three years ago, you thought it was the most comfortable on the market… but three years later, those seats are just killing your back. Or maybe things have changed, and you’re not meant for each other anymore, now that you have a wife and a couple of kids.

There may be a million reasons for wanting to end your car loan early and, depending on which applies to you, you’ll have to figure out if it’s really the best option for your finances. To begin with, here’s a little compendium on what you can expect if you do decide to go through with it.

Should I pay off my car loan early?

Yes, no, maybe? Well, it can depend on a number of factors. You can start by thinking about the following:

  • How much it will cost. In most cases, you’ll need a solid chunk of money to pay off the loan early, so the first step is figuring out if you can afford to spend that much in one go.
  • How much you can save in the long run. This will largely depend on the interest rate you were offered when you negotiated the loan, and on the settlement figure you’ll have to pay to your lender to walk away.
  • The reason why you want to change the car. If things get really expensive, you should consider whether it’s worth it or not. If you’re changing the car because you don’t like it anymore, maybe you can hold on for another couple of years until the loan comes to its natural end. Conversely, if the car is now way too small or too big for your needs, it may be worth the investment.
  • How much your car is worth. Are you going to pay more or less than it cost? Will you be able to sell it afterwards?

Ending personal contract purchase (PCP) early

You have two main ways of getting out of a PCP deal:

Ending PCP through “voluntary termination”

This can be a solution if you can’t afford the payments anymore and can do without the car. It allows you to return the car and walk away without paying any extras.

However, you’re legally entitled to this only if you’ve already paid off half of the overall cost (which includes the car value plus interest and fees). This clause can be a lifesaver if you’re experiencing financial difficulties, but unfortunately it doesn’t apply in a lot of cases. Because of the way PCPs are structured (with a fairly big balloon payment at the end if you want to keep the car), usually you’ll only have paid off half of the overall cost towards the end of your loan.

Voluntary termination is also a better option if the car has depreciated more than expected and you don’t want it anymore. That’s because if you pay off the whole sum early instead, you’ll end up becoming the owner of a car that’s worth less than you’ve paid for.

Paying off PCP early

If you have quite a chunk of money to invest in this, it’s a viable option. You can get in touch with your finance company and ask for a settlement figure to terminate your loan. The settlement amount will include all the money you still owe, plus (in many cases) a fee to compensate the company for the interest you’d have paid if you continued the loan. You’ll also need to cover the balloon payment.

Once you’ve paid the whole sum, you’ll become the owner of the car. You can then:

  • Sell it. If it doesn’t suit your needs anymore or if it’s worth more than you’ve paid for it.
  • Keep it. If you still want the car or if you can’t get a good deal by selling it.

Ending hire purchase (HP) early

With HP, your options are similar to what you can do if you want to end a PCP deal.

Ending HP through “voluntary termination”

Just like with PCP, you can return the car and walk away without paying anything more if you’ve already covered at least half of the overall cost.

The main difference is that HP doesn’t entail a balloon payment and comes with higher monthly payments, so you’ll usually reach that point earlier. Moreover, with HP you borrow more money than with PCP, so if you return the car early you’ll save more on interest.

However, keep in mind that if you’ve already paid back more than half of the car’s value (which is more likely to happen with HP), you won’t be entitled to compensation.

Paying off HP early

Similarly, if you have a lump sum to invest, you can pay off your HP and become the owner of the car. Your settlement figure will be the outstanding amount of the loan plus a fee, which can’t be charged if you’re only repaying early £8,000 or less. If you’re repaying more, the fee is capped to the lower between:

  • 1% of the amount paid early (or 0.5% if you’ve entered the last 12 months of the loan).
  • The remaining interest.

If the lower of the two is the remaining interest, you won’t have saved any money by paying off the loan early. Like with PCP, once your debt is settled and you’ve effectively bought the car, you can either keep it or resell it, depending on its value and your needs.

Typical scenario

  • Clara has just moved to London with her boyfriend Tom. Now that they both use public transport to reach their respective workplaces, they really don’t need a car each, so they’ve decided to give Clara’s back.
  • Clara purchased her car on HP two years ago. It cost £15,000, she gave a £2,000 deposit and spread out the remaining £13,000 into 4 years. She got a 6% APR deal, meaning that her loan is costing her a total £14,654.66 (48 monthly payments of £305.31 each).
  • After 24 months, she has paid off: £7,327.44 (loan) + £2,000 (deposit) = £9,327.44. That’s more than half of the overall cost, which is: £16,654.66 / 2 = £8,327.33. They still decide to return it.
  • They’ve saved £7,327.44, which Clara would have had to pay back in the following two years. On the other hand, she would have owned the car in the end; by then it could still have been worth more than that amount, in which case they’d have lost some money. However, also considering the cost of car insurance, parking and ongoing maintenance, they’re confident they’ve made the right choice and saved money in the long run.

Dos and don’ts

Dos

  • Send a letter to your lender if you want to return the car. Be very clear that you want to proceed with a voluntary termination and you’re not defaulting your loan. And always keep copies, just in case.
  • Consider the condition of your car before returning it. A certain level of wear is of course expected, but if there are bigger scratches or other damaged parts, it may be worth having them repaired before giving the car back, or you may be charged an extra fee.
  • See if you can renegotiate your loan terms. If you’re experiencing financial difficulties, terminating the agreement may not be the only solution. It’s worth contacting your lender first and seeing if you can agree on a longer repayment plan. It may be more expensive in the long run but could help you out by still allowing you to keep the car.

Don’ts

  • Try to sell the car before you actually can. You may think you can sell the car, and then use the money to pay off the loan, but unfortunately that’s not how it works. Both with HP and PCP, you don’t own the car until your debt has been paid off, so you can’t sell it before then.
  • Purchase the car without considering its market value. If you want to pay off the loan and then sell the car to purchase another one, make sure you know how much your car is now worth, or you may end up losing more money than you expect.

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Warning: late repayments can cause you serious money problems. See our debt help guides.

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