3. How to keep on top of your finances

People tend to make managing money sound easy – it’s not. Just keep on top of your finances, they’ll say. But how? We’re going to help you figure out how and when to access credit, and provide practical advice for tracking your key expenses so when it comes around to making a big purchase – a car or home – you’ll be ready to support yourself.

a. Bank loans, pay day loans and credit cards: what do you actually need?

A report from the Consumer Finance Association, which represents short-term lending businesses in the UK, found that 39% of payday loan customers don’t have access to any other form of credit. 60% believed they could not have managed without whatever they spent their loan on.

When asked what they would have done instead, 31% said they would borrow from friends or family, and 11% didn’t know.

If you could no longer access short-term loans, how would you feel?

But are payday loans needed? Since January 2015, regulations have become tougher on payday lenders as price caps came into force in an attempt to make loans fairer for customers.

Under the new rules, no-one will pay more than twice the original debt. Customers shouldn’t pay any more than 0.8% interest per day and can only be charged up to £15 for failing to pay it back on time. For example, a one-month loan of £100 now costs a borrower a maximum of £24 if they pay it back on time.

The changes don’t mean payday loans are a great option, though. Nor are they the only choice available. As the table shows, the majority of people would feel better off if they could no longer access such short-term loans.

So, when you need extra cash, what do you do? Your main options are:

  • A bank loan
  • A credit card

Should I get a bank loan or use my credit card?

You’ll be able to find credit cards that offer an interest-free introductory rate for a certain amount of time. If you’re within a period of 0% interest, credit cards can be a better choice for smaller borrowing, as a bank loan would require interest to be paid from day one.

But when these tempting interest-free offers end, you’ll start being charged a higher rate of interest, typically more than a bank loan. If your planned repayment period is longer than the amount of time you get interest-free on a credit card, a loan is probably more cost-effective. Credit cards also tend to limit how much you can borrow, so you could have access to more credit with a loan.

That’s not to say credit cards don’t have their uses though. They offer you extra protection under the Consumer Credit Directive. If something goes wrong with your purchase, you can apply for a refund.

But always find out what interest rate you’ll get. Those advertised are representative APR – in other words, the interest that 51% of its customers are able to get. Before they confirm, a credit card provider will check out your credit history to decide your interest rate, borrow limit, and introductory period.

However, with a credit card, you can pay as much as you like each month – as long as the minimum payment is met. With a bank loan, a fixed amount leaves your account each month until the total is paid back. The flexibility of credit cards can be a good thing, or a bad thing if you lack the self-discipline to clear the debt.

The last thing to think about is that, as a general rule, credit cards are unsecured. This means they aren’t backed by collateral. Personal loans can either be unsecured, or secured by an asset. Unsecured assets typically have higher interest rates. When it’s secured, it means if you take out a loan or mortgage to buy a car or house, you agree the vehicle or property is collateral that can go to the lender if you fail to pay up.

Ultimately, it comes down to how much money you need, how long for, and how’s best for you to pay it back.

b. How to finance a new car

Cars are expensive. But, in recent years, the car industry has proved itself to be quite innovative when coming up with accessible finance options for individuals to buy new cars.

In the past, rental or leasing agreements were only really targeted at businesses looking to buy fleets of cars they would generally want to offload easily after just two to three years. But the banking crisis forced manufacturers to find new ways to improve car sales – so more and more agreements are now targeted at consumers.

The availability of very cheap finance (a result of the Bank of England's policy of keeping interest rates very low) has resulted in more affordable cars for the average car buyer. If you don’t have the cash for a new vehicle, or can’t take out a loan, there are options for you.

c. HP, PCP and PCH explained

  • Hire purchase (HP): If you pay for your car with a hire purchase agreement, you’ll typically pay a deposit and monthly instalments, until you pay off the entire value of the car – at which point, the HP agreement ends and you own the car. Benefits include no need to estimate your mileage.
  • Personal contract hire (PCH): If you’re not looking to buy the car at the end of your contract, personal contract purchase could suit you. It’s a type of long-term rental where you lease the car for an agreed time by making fixed monthly payments. When the contract is over, you return your car or take out a new contract on another vehicle. PCH agreements are hassle-free and flexible, but you’ll need to agree your monthly mileage and there’s no option to buy the car at the end.
  • Personal contract purchase (PCP): Similar to HP agreements, you’ll pay an initial deposit as well as monthly payments with a personal contract purchase. However, your monthly payments pay off the depreciation of the car, not the entire value. This does mean lower monthly payments, but if you want to buy the car at the end, you will need to pay a final payment.

Deciding what agreement is best for you ultimately depends on what you’re looking for. If you like having a new car every three years or so, then the lower monthly payments of PCP or PCH will suit you. Indeed, PCP agreements are extremely popular. In the twelve months to July 2015, 705,000 people used them to buy new cars – that’s nearly 59% of all private new cars sold in the UK during that period.

But if you want to own the car at the end of the contract, it might be worth paying the higher monthly payments of a HP agreement to avoid a final lump sum at the end.

d. Choosing the right car for you

Once you’ve worked out how you’re going to pay for your new car, it’s time to focus on the more enjoyable part – choosing the car for you. As decisions go, it’s a pretty fun one. That’s not to say it’s easy, though, as there are so many vehicles to choose between, in addition to personalisation options. To work out what’s best for you, there are some important decisions to make including:

  • Do you want to buy a new or used car? New cars often come with a manufacturer’s warranty and you can choose your own specification, but their value can depreciate quickly. You can avoid the hit by buying second-hand but it might take you longer to find what you want.
  • Would you prefer diesel or petrol? Although diesel cars tend to cost more to buy than petrol counterparts, you can make up the difference in fuel savings – but you’ll have to cover a fair few miles to notice.
  • What body style do you want? Hatchbacks, estates, saloons, 4x4s, and an increasing number of crossovers – the choice is tough.
  • What do you need? Your priorities will help you narrow down the choices. Key priorities include things like:
    • How many regular passengers you have
    • Whether you use your car for work
    • How much boot space you need
  • Do you want any additional extras? Nowadays, there are loads of optional extras cars might have. Sat-navs, parking sensors, Bluetooth phone connectivity and more. Decide what’s essential to you, and what would be a welcomed addition.

Once you’ve got a shortlist of your favourite cars, make sure you book in some test drives. There’s no better way to check whether you like the way a car handles than getting behind the wheel. Test it out on a variety of roads, from dual carriageways to twisty country roads, to see if you like the drive experience.

Top tips for car maintenance

To get maximum value out of your investment, it’s important to look after your car well. No matter how much you’ve spent on a car, all vehicles benefit from regular maintenance. Ideally, you should have your car serviced every year, although there are some other milestones to be aware of (e.g. miles between oil changes). It can be difficult to know what you should – and shouldn’t – be doing between these services, so here’s some top tips to keep on top of car maintenance throughout the year:

  • Check your tyre pressures and general tyre condition. The recommended tyre pressures will be in your car’s manual and can easily be topped up with a pump, or with air at a petrol station.
  • Keep an eye on your fluid levels. Engine oil, coolant, power steering and wiper fluids are amongst the levels you can easily check yourself. Although in some cases the car will show you the levels directly, most cars have gauges or dipsticks to current levels against optimal levels (indicated by a notch).
  • Watch out for signs your brakes are worn down. Brakes that squeal, grind, or vibrate could need replacing.
  • Maintain the exterior. You can protect the paint work of your car from natural elements by applying a basic car wax or a modern chemically engineered car paint coating which lasts longer and offers top protection.
  • Check for excessive wear on your suspension. Worn suspension will increase your stopping distances, so it’s important to check for signs of damage, as well as fluid leaks on the shock absorbers.

Keeping an eye on the condition of your car could save you money in the long run, as you could replace key parts before they break and cause further damage.

e. Advice on applying for a mortgage

A house is probably the most expensive thing you’ll ever buy. And unless you’ve got several tens of thousands of pounds lying around, it’s unlikely you’ll be able to buy your first home without financial support from the bank.

Lenders have become more stringent about the vetting process. When you apply, you can expect them to ask a lot of prying questions about your lifestyle, income, expenses and ability to repay, including questions like:

  • Do you have children? Or do you plan to start a family or have more children?
  • Do you expect your income to stay the same or fall in the near future?
  • Do you have any plans to leave your job, start a business or become self-employed?
  • Have you ever taken out a payday loan?
  • Do you ever gamble?

They’re not out to judge you personally, but assess your ability to keep up with repayments. Whilst they won’t be expecting you to live a mundane life, they’ll want to see you live within your means. If you’re a bit stretched financially and still treat yourself to a weekly takeaway, it won’t look great.

Lenders will also be using stress tests to check you’ll be able to afford your mortgage payments as and when interest rates inevitably start to rise.

To help with your mortgage application, we’ve got the following top tips:

  • Get a recent credit report. Your credit score matters – so get a copy of your credit report to see what information lenders will get when they review your application. It will give you the details you need on your financial past, with a record of all your borrowing. A credit report will give you a good indication of whether you’d be seen as a good borrower, or whether you should make improvements before applying.
  • Sort out your expenses. Mortgage lenders will assess how much you spend and how much you’re likely to be able to afford. So start with your own sums and work out what you’re spending – look at regular monthly outgoings (bills, childcare, car loans etc.), as well as your additional costs, such as what you spend on food, or a night out.

Start to understand your spending habits and decide whether there are things you could do without. Finishing each month with cash in the bank and paying off any debts will improve your chances of getting a mortgage.

  • Stay in the same job. If you’re thinking of changing jobs, it’s probably best to wait until you’ve got a mortgage in place. Lenders will want to know your incomings are secure, so it’s not great if you’re in a probation period.
  • Know what your deposit is. The more you’re able to save up as a deposit, the more mortgage options there will be available to you. Lenders typically reserve their best rates for people with decent deposits.

Schemes to support first-time buyers

Taking the first step on the property ladder is difficult. But there is support available to make your first purchase easier, including:

  • Help to Buy equity loan – if you have a deposit of 5% of the property value, the government offer an interest-free loan for a further 20%. The remaining 75% of the property is covered by a standard mortgage. But because you're only borrowing 75% from the mortgage lender, rates can be cheaper than on a 95% mortgage.
  • Help to Buy ISA – designed to boost first-time buyers’ savings, for every £200 you save in this kind of ISA, the government will add £50 – up to a maximum bonus of £3,000. The Help to Buy ISA bonus cannot be used as part of your initial deposit though, but the tax-free lump sum will be paid directly to the mortgage lender at completion.
  • Starter homes – available for first-time buyers aged between 23 and 40, new homes built under this scheme are sold at a minimum discount of 20% of the market price. These discounts are only possible because the government offers developers the chance to build on cheaper brownfield commercial land and waive some taxes.

However, there is a £250,000 price cap on these homes (£450,000 in London) and they cannot be resold or rented at their open market value for at least 5 years after the initial sale.