How car finance works

Most new and second-hand car deals in the UK, around 2 million each year, are bought using car finance agreements rather than cash¹. "Car finance" covers two very different things: borrowing money to buy a car outright, and leasing, where you pay to use a car that belongs to a finance company and hand it back at the end.

The difference that matters most is ownership. With some types of finance you own the car from day one; with others the finance company owns it until the last payment, or for the whole term. That single difference decides whether you can sell the car, whether the lender can take it back if you fall behind, and what happens at the end of the agreement.

This page explains the main types, what each one costs at the start and each month, who owns the car under each, and what happens if payments are missed. It also covers the motor finance redress scheme, which may pay compensation to people charged too much through hidden dealer commission.

Car loans and car leasing: the two ways to pay

Car finance splits into two families. The first is borrowing to buy: you take out credit, the credit pays for the car, and the agreement eventually ends with you owning it (or, with a lease-style product, never owning it at all). The second is leasing: you pay a monthly amount to use a car that always belongs to the finance company, and you give it back at the end.

Who you pay depends on the arrangement. With dealer finance arranged at the showroom, payments usually go to a finance company rather than the dealership itself, though some arrangements involve the dealership directly⁷. The finance company is the lender behind the deal; the dealer usually acts as the introducer.

Within "borrowing to buy" there are several distinct products, each with its own rules:

• Personal loan: borrowing from a bank or lender in the usual way and using the money to buy the car. Monthly payments go to the bank or lender, not a car finance company, and the car is not at risk from missed payments⁸.
• Hire purchase (HP): paying a deposit and then monthly instalments, with the finance company owning the car until the final payment.
• Personal contract purchase (PCP): similar monthly structure to HP but with a large optional final payment if you want to keep the car.
• Conditional sale: like HP, with ownership passing only when the agreement is fully paid.
• Lease or personal contract hire: a rental agreement with no route to ownership.

There are also specialist schemes. The Motability Scheme lets people who receive a qualifying mobility allowance lease a car, with some or all of the benefit paid directly from the government to Motability each month to cover the lease; some more expensive cars also require a one-off advance payment⁹. Family Fund Mobility Support provides leased cars to families on a similar basis, under a regulated hire agreement¹⁰.

Car loans: borrowing the money to buy outright

A personal loan used for a car works like any other personal loan: you borrow a fixed amount, repay it in monthly instalments, and the lender has no claim on the car itself. Advice NI describes the arrangement plainly: monthly payments go to the bank or lender, not a car finance company, and your car is not at risk from missed payments⁸.

The main practical differences from dealer finance are at the start and at the end. At the start, a personal loan usually needs no upfront deposit, whereas dealer finance often requires one⁷. At the end, there is nothing to settle or hand back: the loan simply finishes when the last instalment is paid.

Hire purchase, by contrast, is structured around a deposit. Under a hire purchase agreement for a car, you usually pay an initial deposit, normally at least 10% of the car's price, and then monthly payments². PCP works from the same starting point but defers a chunk of the cost to an optional final payment, which is explained in detail on the PCP and hire purchase pages.

Which route suits someone depends on their circumstances rather than on any product being better: a personal loan suits people who want to own the car outright and keep it, and who do not want the car tied to the credit; HP and PCP suit people who prefer a deposit and lower structured monthly payments, or who plan to change the car at the end of the term.

You own the car from day one with a loan

With an unsecured personal loan, ownership is straightforward: you buy the car with the borrowed money, so you own the car when you buy it¹¹. The Post Office's guide puts it simply: you own the car from day one⁷. National Debtline describes buying a car under an ordinary loan agreement in the same terms: you own the car before it is paid for, and the lender cannot take the car back¹².

That ownership is what separates a loan from every other type of car finance, and it has three practical consequences:

• You can sell the car at any time¹¹. The loan is separate from the car, so selling it does not need anyone's permission, though the loan still has to be repaid.
• The lender cannot repossess the car if you miss payments¹¹. It can pursue the debt through arrears notices, default and collection, but the car itself is not security.
• Nothing happens at the end except the loan ending. There is no final payment to make, no inspection, no mileage check.

One product is the mirror image of this: the logbook loan. A logbook loan is a loan secured on your vehicle, normally a car, with the lender taking ownership until repayment¹³. You hand ownership of your car to the finance company until you make the last payment¹¹, though you can keep driving it, and you only become the legal owner again once the agreement is settled in full¹⁴. Logbook loans are a high-cost form of secured credit covered in full on the logbook loans page.

Car leasing: paying to use a car you hand back

A lease, sometimes called personal contract hire, is a long-term rental. When you lease or hire a car, it remains the property of the finance company¹¹. You do not own the car at the end of the lease, you must return it at the end of the leasing agreement⁷, and you cannot sell it¹¹.

Because the car never becomes yours, a lease has no final payment and no option to buy. The agreement runs for a set term, you make the monthly payments, and at the end the car goes back and the agreement ends. This makes leasing quite different from PCP, which looks similar month to month but ends with a choice: hand the car back, or pay the final amount and keep it. The PCP or personal contract hire comparison page sets the two side by side.

Leasing through a disability scheme works the same way at heart. On the Motability Scheme, insurance, breakdown cover, servicing and maintenance are all included in the price¹⁶, and the lease is paid for from the mobility allowance rather than from your own monthly budget⁹.

If a car bought on finance turns out to be faulty and is rejected, the money does not simply come back to you. Where a car bought on PCP, HP or a lease is rejected, the dealer refunds the finance company rather than you directly; the finance company then terminates your agreement and pays you back your deposit plus any payments you have already made, minus any deductions for fair usage¹⁷.

What a lease costs: deposit, monthly payments and extras

A lease is built from a deposit (often called an initial payment), a run of monthly payments, and the terms agreed at the outset. A deposit is often required at the start of car finance generally⁷, and on hire purchase the initial deposit is normally at least 10% of the car's price². On a lease the initial payment is usually expressed as a number of monthly payments rather than a percentage, but the principle is the same: more money up front means less each month.

The monthly payment is effectively covering the car's expected loss in value over the term, plus the finance company's charges. That is why two cars with the same list price can lease very differently: a car expected to hold its value costs the finance company less over the term.

What the monthly payment includes varies by scheme, and it is worth checking exactly what is covered before signing:

• On the Motability Scheme, insurance, breakdown cover, servicing and maintenance are all included in the price¹⁶.
• Family Fund Mobility Support leases can include vehicle road tax, car insurance, servicing, repairs and maintenance, breakdown cover and running costs¹⁰.
• A commercial lease may include none of these, with insurance, tax and servicing paid separately on top of the monthly payment.

The Motability Scheme also has its own payment structure: some or all of the mobility benefit is paid directly from the government to Motability each month to pay for the lease, and some more expensive cars also require a one-off advance payment⁹. Family Fund leases are signed under a credit hire agreement, a regulated hire agreement, for the lease of the car¹⁰.

Mileage limits and return charges on a lease

Because a lease's monthly payment is based on the car's expected value at the end, the finance company needs to control how much the car is used. Leases typically include annual mileage limits, with penalties if the limit is broken⁷. When setting up a contract, you have to set an annual mileage figure, which typically ranges from 5,000 to 30,000 miles per year³.

If you exceed the agreed mileage, the finance company could penalise you for using too much mileage¹¹. Which?'s guide to car finance notes that mileage limits can be restrictive if you need the car for long distances, with charges if you go over the limit or return the car in poor condition⁷.

At the end of the lease, the car is inspected, and extra fees can apply for excessive wear and tear, scratches and worn tyres upon return⁷. Advice NI adds an important qualification on mileage charges: the finance company might attempt to add extra charges based on the car's mileage, especially if it exceeds what they expected, but if you have maintained your car well, they legally cannot impose such penalties⁸.

Loan or lease: how each one behaves

The table below sets out the three ownership positions side by side, because most of what follows from your choice of finance flows from them.

The ownership rules also matter in situations beyond missed payments. If you are selling assets to pay debts, a car, bike or caravan bought on hire purchase, conditional sale or a logbook loan belongs to the finance company, not to you, so it is not yours to sell¹⁹. If you go bankrupt, a hire purchase or conditional sale agreement may include a clause ending the agreement, in which case the lender can repossess the vehicle and sell it, though some lenders may allow you to keep the car²⁰. Bailiffs enforcing a debt face the same limit: vehicles on hire purchase, PCP or conditional sale are not fully owned by you until the last payment is made²¹.

How to apply and the credit check

Whichever type of finance you apply for, the lender will check your credit record with a credit reference agency to see whether you are creditworthy²². This is the same basic process as applying for any credit product. The loan affordability checks page explains what lenders must look at before lending.

For car finance specifically, there are a few practical points:

1. Dealer finance is arranged at the point of sale. The dealer introduces you to a finance company, and the agreement is usually signed in the showroom or online at the same time as buying the car.
2. A personal loan is arranged directly with a bank or lender, before you shop, which means you are a cash buyer at the dealership⁸.
3. A credit check will be run in either case, and the result affects both whether you are accepted and the rate you are offered.

If you are trying to work out who your car finance was with, perhaps for a commission complaint, the FCA suggests three routes: check old bank statements, contact the dealer where you got the car, or check your credit file, which you can access for free through Experian and TransUnion²³. The FCA also points to Equifax's Car Finance Checker, which includes most car finance records back to 2007²³. The how to find out who your car finance was with page walks through this in detail.

If you are buying a second-hand car, a vehicle history check before purchase will show whether finance is recorded on the vehicle, and if so, which company it is with, when it was taken out, how long for and what type of finance it is¹⁵. This matters because a car with outstanding finance does not fully belong to the seller.

What happens if you fall behind on payments

The consequences of missed payments depend on the type of agreement, but the sequence is broadly the same. The lender will contact you after you miss one or two payments, and at that point it should discuss ways for you to catch up and pay the arrears¹¹. Continuous non-payment can result in formal notices of arrears and, after 3 or 4 missed payments in a row, a default notice⁸. The lender may then take further action to collect the debt and recover the car, possibly using a debt collection agency or applying for a county court judgment (CCJ)¹¹.

What the lender can do about the car itself depends on the agreement:

• Personal loan: the loan provider cannot take the car back if you miss payments, but you do have to repay the full amount¹¹.
• Hire purchase or conditional sale: the finance company can take the car back, and it can do this without going to court if you have paid less than a third of the agreement¹¹.
• Lease or hire: the finance company can take the car back if you miss payments¹¹.
• Logbook loan: the lender owns the vehicle from the start and can take and sell it if you do not repay¹³.

Missed payments also leave a mark on your credit record. Late payments, missed payments and defaults stay on your credit history for six years⁴. The what to do if you can't repay a loan page and the car finance repossession page cover the options, including voluntary termination and speaking to a free debt advice charity such as StepChange.

Commission complaints and the motor finance redress scheme

For years, many car finance deals included commission arrangements between the lender and the dealer or broker. In some cases the dealer could set a higher interest rate just to earn a bigger commission, and customers were not clearly told this²⁴. The FCA has now launched a redress scheme for borrowers²⁵ to compensate eligible car finance customers who may have been treated unfairly²³.

Who is covered. You may be owed compensation if you used car finance for a motor vehicle between 6 April 2007 and 1 November 2024, for example a car, motorbike, van or campervan, including hire purchase agreements such as PCPs⁵. The FCA estimates that 12.1 million agreements made between 2007 and 2024 are now eligible for compensation⁶. You are excluded if you have already accepted compensation⁵. The scheme also requires that the consumer was habitually resident in the UK at the time the agreement was entered into²⁶.

What is being examined. The subject matter of the scheme is whether there was inadequate disclosure of a discretionary commission arrangement, the payment of commission, a tied arrangement, or any other incentivising arrangement between the lender and the credit broker²⁷. For agreements from 2014 onwards, the wording is similar: any arrangement incentivising the credit broker to introduce consumers to that lender²⁸. Where the commission was very high, defined as 50% of the total cost of credit and 22.5% of the loan, and another relevant factor of unfairness existed, consumers may receive the commission paid⁶.

Size limits. The scheme excludes agreements above a total amount of credit threshold, which rises by year:

The threshold does not apply where the vehicle was constructed or adapted to enable a person with a disability to travel in it as driver or passenger²⁷.

Where the scheme stands. New rules for the FCA's motor finance redress scheme were announced on 30 March 2026²⁹. However, the FCA has received legal challenges to the scheme, including four new challenges from three lenders and a consumer group¹, and a hearing is expected in either December 2026 or February 2027, which has suspended the scheme's timescales in the meantime. If the scheme is upheld and the judgment is not appealed, payments are expected to begin in 2027.

How to complain. It is free to complain, and the FCA has committed to an "easy to participate in" redress scheme³⁰. If you accept an offer under the scheme, the lender will have one month to pay you³⁰. The FCA's current guidance is to wait until you hear from your lender before bringing a complaint to the Financial Ombudsman²⁹. Complaints already brought to the ombudsman before 30 March 2026 are not affected by the scheme and will be investigated and answered in due course²⁹.

The volume of complaints has been enormous. In Q1 2025/26 the Financial Ombudsman processed 21,500 new complaints about motor finance commission across all financial products³¹, and in Q3 2025/26 it resolved 7,100 complaints about motor finance commission, mainly about fixed commission³². Consumer Scotland has noted that proposals around the redress system will not adversely affect consumers who need to complain if a firm fails to comply with the terms of the FCA's redress scheme¹⁷.