From APR to balloon payment: expert busts the most confusing vehicle finance terms

A recent report revealed that there's been a 263% rise in annual car finance between 2022 and 2019 – which equals £11.2bn.

Taking out a car finance agreement can be a fantastic choice for many UK drivers, but that's not to say that the process doesn't come without some question marks...

What's up with all the various finance jargon and acronyms? Add those into the mix and sometimes it can feel like public transportation is the better option!

If it's not the APRs then it's the CRAs, and don't get us started on the DMPs and the FCAs.

While it is all useful information that will certainly help you get your new wheels pronto (regardless of financial constraints) understanding the terminology can be overwhelming and time-consuming.

Jonathan Such, Head of Sales at vehicle finance company First Response Finance, has put together this handy jargon buster. Keep this to one side and you'll be laughing all the way to your finance agreement!

Research and application stage

As with most things in life, sufficient research is paramount before committing to something. Especially when that 'something' is a new car and subsequent finance settlement.

In the research and application stage, you'll likely come across various terminology that just might boggle your brain and marvel your mind. But it's important you pay close attention. Here are some key things to look out for:

APR (Annual Percentage Rate) 📅

Expressed as a percentage, this is the cost you'll pay each year to borrow the money for your car. There's your loan amount, and then how much money you'll pay back on top of that (your APR), which includes any fees.

Representative APR

If you spot a loan that's advertised with a 'representative' APR, it means that at least 51 percent of customers have received a rate that's the same as, or lower, than the figure advertised.

Interest rate 📊

The amount you'll be charged for borrowing money from a lender will be determined by the interest rate. This is also expressed as a percentage but doesn't include any other associated costs.

Fixed rate 

This is the rate of interest that you'll pay and is set before you take out the loan or finance. This rate won't change throughout the term of your agreement – it's 'fixed'.

Car loan 💷

Also known as 'financing a car', this term represents why you’re here! When you find the car that you want to buy, the car loan (financial agreement) is drawn up. The money never reaches your bank and is instead used to put the car straight in your possession.

Car lease

If you choose to lease a car, this means that the car is never yours to own. You will have to give it back at the end of your agreement.

HP (Hire Purchase) 🚗

Through monthly instalments, you'll pay the agreed amount for the car (as well as interest) as a way of hiring the car. Once the final payment has been made, only then will you be the owner of the vehicle. 

Jonathan said: "Hire Purchase is a fantastic route to go down for many UK drivers. Benefits include a fixed interest rate, no deposit, flexible terms, and no annual mileage restrictions. Plus, it's really simple to arrange.

"If you're looking for new wheels but want fixed monthly (or weekly) repayments, and protection under the Consumer Rights Act (2015), this could be the option for you."

Consumer Rights Act, 2015 (CRA)

This consolidates existing consumer protection law legislation while giving several new rights when it comes to contracts for goods and services.

DMP (Debt Management Plan) 🤝

This is an informal agreement between you and your lender around paying back your debt. When you're in a DMP, you are still eligible to apply for finance, however, discussions will need to be had to ensure your debt is affordable.

FCA (Financial Conduct Authority)

The financial regulator in the UK.

Hard credit check ✅

This is a detailed search of your credit history carried out by a company or a lender. With this, people will be able to see your track record of borrowing and repaying money. This is why it's incredibly important you work to build a good credit score.

Approved in principle

This means you're almost there! Approved in principle means you've been initially accepted for finance, but there are a few final forms to complete before you're fully approved. 

Once you have the car

So, you've been accepted for finance and the car is yours! Congratulations, we hope you're going to be very happy with your new wheels.

However, your finance journey doesn't come to a halt once the car is on your driveway. Especially if you've chosen the Hire Purchase option.

Here's some more terminology you need to keep your eyes peeled for:

Balloon payment 🎈

A one-off lump sum paid at the end of your finance agreement. By doing this, you'll buy the car outright. While this part happens long after you get the car, it's important to know the size of the balloon payment is established at the start of your agreement.

Equity

This is the difference between the outstanding debt owed to the lender and the resale value of the car. If the value is greater than the amount owed, you have positive equity. Understandably, then, if the money owed to the lenders is greater than the resale value of the car, you have negative equity.

Warranty 🔧

A manufacturer will promise to repair or replace the car – if necessary – through a written guarantee, which is called a warranty. Usually, the warranty will cover a specific period of time.

Default interest

You likely already understand how serious it can be to miss any kind of payment. When it comes to your car, missing a payment can result in a lender charging 'default interest'. The amount of default interest charged is based on the amount of arrears you owe until you're up to date with your payments. 

Default notice 📄

This is a formal letter that you want to avoid. A default notice is sent by a lender telling you to catch up on your missed payments or risk having your account closed. It's in your best interest to pay what you owe immediately, but you're normally given at least two weeks to take the action stated.

Depreciation

Age is nothing but a number... unless you're a car. Depreciation is the term used to describe the loss in value of your car as it ages. What you paid for it, compared to what it's worth now.

Trust us, it’s worth it!

Don't be overwhelmed by all the jargon and letters. If you need a new car and feel finance is your best shot at getting one, it's worth taking the time to familiarise yourself with all the loopy lingo.

Plus, with this handy guide, we hope that it's easier than ever before. And don't forget, if you're ever unsure of anything, it's worth talking to a professional. Good luck!