PERSONAL FINANCE:Scrappage schemes can be an attractive option, but before you scrap your banger and sign on the dotted line for a new car, you need to chose your car finance wisely

THANKS TO the Government’s scrappage scheme, car sales have rebounded steadily from the lows reached in 2009. The fall-off in the level of new car sales over the past few years, however, means that those searching for a decent second-hand vehicle may struggle to find one they like.

For those in the market for a new car, the scrappage scheme means that qualifying purchasers can benefit from a discount of at least €1,250. Certain manufacturers, such as Peugeot and Renault, offer even more.

While there are plenty of discounts, it has become more difficult to get the finance needed to avail of them.

Typically, car buyers in need of credit approach their credit union, a bank, or an asset finance provider, which is often available on the forecourt of a car dealer.

Times have changed, however. Credit unions and banks have tightened their lending terms and increased their rates, while a number of asset finance firms, including GE Money, have stopped offering car loans.

Getting car finance is not as easy or straightforward as it used to be. Picking out the vehicle is the simple part, figuring out how to pay for it can prove a lot more difficult.

To help get car sales moving, a number of manufacturers, including Volkswagen and BMW, have started to provide finance.

But before you scrap your banger and sign on the dotted line for a new car, there are several pitfalls you need to watch out for when navigating today’s car-finance market.

Car manufacturers generally sell cars based on hire-purchase agreements, which are like the asset-finance arrangements of old. In essence, the terms of such an agreement mean that the borrower doesn’t actually own the car until the last payment is made. This is not like a personal loan, where you borrow money to purchase an asset outright but remain indebted to the lender.

During the boom years, a hire-purchase arrangement may not have been a source of worry for many, but given the current economic environment, it can be a risky prospect for those with an uncertain financial future.

Look at what happens if you lose your job, for example, after you signed up to a hire-purchase agreement to buy a new car valued at €22,000 (total hire-purchase price, including cost of credit, is €24,500). The monthly repayments were about €400, and for two of the four years of the term of the finance agreement you had no problem meeting them.

But, if you suddenly lose your job in year three and become unable to keep up with repayments, you will lose both the car and all the money you have spent on it – about €9,600 in all. Not only this, but you may still be liable for any outstanding debts.

Under the “half rule”, in order to end a hire purchase agreement and hand back your car, you must be able to pay half the hire purchase price.

So in the above agreement, you would need to have repaid the lender €12,250 in order to end the agreement, which means there is a shortfall of about €2,650.

If you were unable to come up with that amount, you would have to surrender the car and agree to repay the finance provider this amount, on which you may be liable for interest at a higher rate.

Another point to note is that the longer the term of the agreement, the more it will cost in interest repayments. So beware of over-zealous sales people encouraging you to sign up for four or five years.

It may mean lower monthly repayments, but in the long term you will have to pay more, which means more money for the finance provider.

If you opt for a personal loan instead of a hire-purchase agreement and subsequently run into trouble, at least you still own the car. This gives you options.

You can sell the car to pay down the outstanding loan (or given the rapid depreciation in the value of new cars, part of it) or you can ask your borrower to restructure the loan.

The difficulty with personal loans, however, is that banks are looking a lot more closely at people’s outgoings before lending money, and they are charging more for doing so.

You can expect to pay between 10 and 13.7 per cent on personal loans at Allied Irish Banks, or 15.9 per cent at Bank of Ireland for a fixed rate.

Locking into a fixed rate so that you know what your payments will be might sound like a good idea, but if you wish to pay off or pay down the loan over its term in order to reduce your interest bill, you might find that you incur a hefty penalty.

Taking out a loan can have other implications too. If you are considering applying for a mortgage, be aware that in today’s environment an outstanding car loan could affect your chances of a bank approving your application.

This is one reason why hire- purchase agreements can be more attractive to some people.

Permanent TSB offers a 9.9 per cent rate on its finance agreement, and Volkswagen is offering finance at 5.9 per cent.

While hire purchase agreements frequently include additional costs on top of the average interest charged, such as documentation fees, they can nonetheless still work out considerably cheaper too.

For example, the finance of €17,000 needed to purchase a new Golf (retailing at €22,770) will cost those who have a deposit of €5,000 about €2,000 in interest over the life of a four-year agreement with Volkswagen.

On the other hand a personal loan at 13 per cent will set you back €4,600, which is more than twice as much.

Given the clamp-down on lending by the banks, you might find a car manufacturer more welcoming.

“We have money to lend,” says the head of sales and marketing with Volkswagen Ireland, Adam Chamberlain. While not everyone will qualify for finance, Chamberlain says Volkswagen has an acceptance rate of about 74 per cent, and 15 per cent of the manufacturer’s new car sales in Ireland are made using in-house finance.

Another option for those hoping to buy a new car is to consider a personal contract plan (PCP).

This is a type of leasing agreement that offers consumers the option of either handing back the car to the dealer at the end of the finance agreement, using it as a part-exchange for a new car, or completing a hire-purchase deal and owning the car outright.

The basis of the scheme is that by determining the future value of the car at the outset (for example €7,000 on a three-door Golf at the end of three years), you only have to finance the cost of the new car, less both your initial deposit and the future value of the car, or the “balloon” payment.

This means lower monthly repayments and more flexibility for those keen to upgrade within a few years.

According to Chamberlain, there is a rising demand for the scheme, which is already very popular in the US and UK. Last year, for example, Volkswagen sold 16 cars here under the terms of a PCP, but by the end of February the number sold this year was 52.

PCPs also carry risks. Unless you have the funds to either upgrade or buy the car outright at the end of the term, you may have to hand the car back to the dealer and forego the outgoings you have already made, unless you can agree to refinance the balloon payment. These plans also usually carry a slightly higher rate of interest.

Thinking of buying a new car?

PROS

- Lower road tax: annual tax on newer, more efficient cars is generally much lower than what you might be used to paying, ranging from €104 to €156. In addition, you can reclaim any road tax remaining on your scrapped vehicle in excess of three months.

- No NCT for four years: and when you do have the test there is a better chance of passing first time – two-thirds of cars aged 10 years and over have to do the test at least twice.

- That new car smell

CONS

- Getting finance: if you dont have enough saved, you might find it difficult to get a personal loan from a bank and if you do, you can expect to pay interest rates of upwards of 10 per cent.

- Hire-purchase deals can leave you high and dry: if you can't afford to keep up repayments, you might lose the car and all the money you have put into it.

- Is now really the time to be showing off your wealth by driving around in an 11 reg car? Ostentation is so 2006.