APR and Flat Rate Interest Explained

APR and flat rate interest

There are different types of car finance, and for the person just starting out on their car-buying journey, it can be difficult to understand the differences and terminology. Terms like “interest rates” and “APR” can be alienating to someone who has never had to deal with them before, but when it comes to buying a used car, a little knowledge goes a long way. Let's break it down for you, and how you can use this knowledge to find good deals on car finance interest rates.

What is APR?

APR stands for Annual Percentage Rate and is the most common way of calculating the interest you would pay on a loan. When a car dealership offers you a payment plan, the APR refers to the percentage of interest on the money you have borrowed, it includes any fees that have been issued with the loan.

The important thing to note is that APR stays the same through the life of the repayment, but it only applies to the money that you owe. Any money you've paid off is no longer subject to APR. For example, if you financed a new car with a 3% APR, you took £10,000 to finance this car, and after 12 months, you paid £4,000, you would only be paying the APR on the remaining balance, which would be £6,000. APR is a common component of loans and is considered the most straightforward way of informing you how much your car finance can cost over its lifetime.

How Does APR and Flat Rate Compare?

A flat rate is based on the original amount borrowed, but APR will only take into consideration what remains. As a flat rate stays the same throughout the life of a loan you will not see your repayments go down. However, APR means you would only pay interest on the outstanding balance, which can certainly make a difference when you are looking for finance for your vehicle.

Flat rates are less common than APR, but they do still exist. If you see a vehicle with flat rate interest, be aware because the lower percentage figure can make loans appear cheaper than they are. However, in the UK, loans are legally required to have an APR rate.

What is a good APR?

Naturally, you may wonder what is classed as “good” APR. However, there is no specific answer to this, especially with regards to personal APR that is calculated on your own circumstances, like your credit score. But there are things you can use to gauge if you are paying too much interest. For example, if you are looking for a conventional finance package such as a PCP, and your credit score is between good and excellent, the APR could fall anywhere between 6% and 19% (depending on your bargaining skills). If you have a low credit score, this is where specialist lenders may come in to play, and offer APR starting at 20%, and can go higher depending on your credit history.

What is 0% APR?

You may have seen deals relating to 0% APR, which is a very attractive prospect. It's worth noting that while there are 0% APR offers available, these usually apply to vehicles that are either proving difficult to move or where a new model may be due out soon. If you are not looking for a new model, or are not too bothered about the type of vehicle you want, a 0% APR may be very enticing.

How do you get the best deal?

If you are looking for the best deal for you, as far as APR is concerned, the most important thing is to make sure your credit score is in the best condition possible. There are many things that can impact your credit score, such as your financial situation, and your borrowing. To make sure your credit score is in the best shape, some of the key things you can do include paying your bills on time, avoiding applying for too much credit, keeping your credit utilisation score low, and checking your eligibility for credit.

When buying a vehicle, you can also compare the APR against the flat rate. Flat rates are usually displayed as a lower percentage than APR, making it look more appealing, but the best thing for you to do is to calculate which is best. You will always need to compare the APR, and as long as the deals you're comparing are over the same number of years or months, the lowest APR would be the cheapest deal.

Interest is something that we don't always consider, especially when we are looking at the cost of a car upfront, but we always need to factor in this important component when buying our dream vehicle. It is time to get interested in it!