September 24, 2023

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What will higher interest rates mean for car finance customers?

What will higher interest rates mean for car finance customers?

As you will probably have heard by now, the Bank of England once again increased the official base rate for borrowing in the UK this week, which will have a knock-on effect for interest rates on almost all new finance agreements and some existing agreements.

The base rate was increased by half a percentage point to 2.25%, which is the seventh rate rise in ten months,and it’s entirely possible that there may be more increases to come. However, it’s also worth pointing out that the current rate is still only about half of what it was prior to 2008 and is still historically very low.

The rate rises are in response to ever-increasing inflation and are designed to slow down spending. Similar increases are taking place all over the world, so it’s certainly not a UK-specific issue.

Given that most cars are heavily financed, there is naturally a lot of concern from car buyers and car owners about what this means for their finance agreements. So here’s what you need to know:

If you have a car finance agreement already

Car finance agreements in the UK are almost always set with a fixed interest rate for the life of the contract. So if your APR (annual percentage rate) when you signed up was 5.9%, then it will remain at 5.9% for the whole agreement.

That also means that your monthly payments won’t change from what you originally signed up for, regardless of whether the Band of England puts its rate up or down.

However, if you enter into any re-financing agreement with the finance company, that’s actually a new contract so your current interest rate won’t necessarily apply.

If you have signed a contract but haven’t taken delivery of the car

Once you sign a car finance agreement, the rate will be fixed. So if you have already signed your finance contract but are still waiting to collect your car, you shouldn’t be affected.

In theory, a finance company could cancel the agreement and ask you to sign a new one at a higher rate, but in reality they are unlikely to try it. The extra income they would get is not worth annoying – and potentially losing – a customer.

If you are currently shopping for a car

If you’ve been shopping around and mulling over finance quotes on a new or used car, you will need to check with the dealership or finance provider that the quote you were given previously is still valid.

Interest rates for car finance will start going up immediately – which means as soon as today for used cars. For new cars, it will probably mean from October as car companies will still be trying to get as many cars out the door by the end of this month as they possibly can.

If you are looking to buy a car in coming weeks/months

Any given car is likely to be more expensive to finance tomorrow than it was yesterday. Car finance companies will start passing on increased interest rates immediately, so if the car remains at the same price then the monthly payments will be higher than what they would have been previously.

How much will prices go up?

For most buyers, the latest interest rate hike is likely to only make a new finance agreement a few pounds per month dearer. But this is the seventh increase this year, so rates will now be noticeably higher than they have been at any point in the last decade. If it adds a few pounds a month each time rates go up, it quickly starts to make a noticeable difference.

Combined with cars getting ever-more expensive, chances are high that your next car will cost a chunk more per month than your last car.

What sort of finance agreements does this appy to?

Any regulated car finance agreement will be affected. This includes:

Personal loans from your bank or building society will also be affected, although these are usually fixed rate agreements like car finance contracts, so won’t affect existing customers. Credit cards interest rates will go up, too, which will affect both existing credit card debt and any new purchase you make with your card.

What about leasing?

The rate hike will also affect leasing payments for new customers, including contract hire, salary sacrifice and subscription agreements, although there is less transparency around rates for leasing so it’s not as obvious.

These contracts don’t display interest rates as you’re not actually borrowing money to buy a car like you are with a PCP, HP or other types of car finance. However, higher interest rates will affect the companies leasing you the vehicle, so they’ll be passing on any increased costs.