What is contract purchase
Contract purchase is a form of car financing where an individual or company pays a regular monthly fee for an agreed contract length to use a vehicle. At the end of the agreement, you can either:
- Part exchange the car and use the equity towards a deposit for your next vehicle
- Buy the car for a pre-agreed amount
- Hand the car back to the leasing company (depending on the mileage and condition restrictions)
With three options to pick from at the end of your agreement, contract purchasing offers plenty of flexibility. It's popular with businesses who need a fleet of new vehicles and want to pay in a steady and affordable way.
In this guide, we talk through the pros and cons of contract purchasing and how you can amend or edit your contracts to suit you and your fleet.
How does contract purchase work?
Contract purchase can be split into three simple steps:
- 1.Pay an initial deposit.
- 2.Make monthly payments to cover the vehicle’s remaining cost until the end of the agreement with the leasing company.
- 3.Decide what to do with the car when you reach the end of your contract.
Typically, contract purchase agreements last for 24, 36 or 48 months. The longer your agreement, typically the lower your monthly payments will be, as the payments are spread over an extended period.
Can you cancel a car purchase contract?
It is possible to cancel your contract purchase agreement before your term ends. But there are rules about when and how you can do it.
You must have already repaid 50% of the total value of your contract. This includes interest and any other charges - such as service and maintenance packages. If you have, you can cancel the contract, return the car and walk away from the agreement. This is known as a voluntary termination.
When you haven't paid off 50% of the money you owe on the car you can still cancel the contract. You'll have to make additional payments to reach the 50% before you can cancel your contract.
What happens at the end of contract purchase?
When the contract ends, you have three options to help pay off the car's remaining value.
- 1.Part exchange, using your car as a down payment for a new vehicle.
- 2.Buy the car with a ‘balloon payment’.
- 3.Give the car back to the leasing company and end your agreement.
Contract purchase is ideal for businesses that like to run the latest cars or vans without the worry of depreciation. That's because you can part-exchange your vehicles at the end of your contract for a new model without losing the initial payment.
At the end of the contract, the company (or driver if you're using personal contract purchase) can also choose to purchase the car for a predetermined amount. This is known as a balloon payment.
Can I change the terms of contract purchase?
If your circumstances change, you might want to adapt the terms of your contract. You can usually discuss the terms of your contract with your leasing company and make certain changes. But both parties must agree to them before they can be made.
You may find your payments change if you adapt the agreed mileage allowance in your agreement or the length of your contract.
Changing your vehicle
If you want to change your vehicle before your contract purchase ends, you must usually pay a settlement fee. This includes the unpaid balloon payment and any interest. Typically, it will be less than the amount you'd pay to continue with your monthly payments.
The leasing company will tell you the amount to pay to settle the finance. They then work out how much the monthly payments will be for your new model.
If the value of your current car is more than the settlement fee, then your finance will be settled in full. You can then put the remaining value towards a new car deposit, reducing your new monthly payments.
What charges can apply with contract purchase?
You can usually add service and maintenance packages to cover any annual service costs and maintenance.
If your company is VAT registered, you won't have to pay VAT on the monthly finance payments either. However, if you take out an optional service or maintenance package alongside your contract purchase, you will pay VAT on the service costs.
Contract purchase vs Hire purchase
Hire and contract purchase are very similar but there are a few notable differences.
With hire purchase you also pay monthly payments towards your vehicle. The key difference is that a hire purchase can work out cheaper overall as you'll pay off the borrowed amount faster without a balloon payment at the end.
Another significant difference is that hire purchase agreements don't have the same mileage limitations as contract purchase. Hire purchase agreements don't consider how far you've driven when calculating the vehicle's depreciation. Instead, you just finance the cost of the vehicle minus whatever initial deposit you put down.
Things to remember with contract purchase
As with any type of car finance, there are a few things to consider to make sure it's right for you before taking out a contract purchase agreement:
- Monthly payments tend to be higher compared to contract hire agreements
- In some cases, the interest rate is slightly higher than a hire purchase contract.
- You must inform the leasing company if your circumstances change, and you may need to edit your mileage allowance.
- The full cost of the vehicle is shown on your credit file, which could impact your credit score.