Weigh up your options when buying a car

2010-10-16 12:14

A few readers have called me about car purchase contracts – and there appears to be a lot of confusion about hire ­purchase (HP) and lease contracts.

One reader wanted to know the ­difference between residual and ­balloon payments, which, by the way, are one and the same thing.

The North West reader entered into a residual contract after paying a 20% deposit and now, three years down the line, he realises the results of his hasty decision and wants to sell the car and settle the debt.

According to him, the purchase price of the car was about R98 000 and he is unhappy that 36 months later and after instalments totalling about R70 000, the bank tells him the settlement amount is R64 000.

Most of the readers who called me are individuals who entered into contracts prior to the National Credit Act (NCA) or just after the law was enacted. I remember how easy it was to access credit and how car dealers went on a total marketing onslaught to close business before the act became law.

After the NCA came into force, in ­order to skirt the issue of affordability, credit terms of 72 months became standard. The longer the term the ­lower the instalments.

Previous loan repayment periods were usually 48, 54 and 60 months.

The table above shows the difference in instalments between hire ­purchase and lease contracts. On the 60-month credit contracts I have ­applied an interest rate of 12.5%.

Residual value or balloon payment at the end of the lease term is R40 948. If you look closely, the R24 000 deposit ­reduces monthly instalments on both the HP and lease ­contracts.

This is where the confusion about the balloon payment comes from; some assume that if a deposit is paid they do not have to pay the balloon payment at the end. All that a deposit does in a lease contract with residual is that it reduces instalments.

At the end of an HP agreement, the car buyer takes ownership without having to pay the additional R40 948.

The difference in instalments under a lease and an HP with a paid deposit is R495. It is this amount that makes a difference between taking full ­ownership at the end of the term. ­Conversely the reduction in repayments over the term amounts to the residual amount in the end.

What appears to be a saving is in ­reality a deferred payment.

In the event that one cannot afford the additional R495 a month under HP, one can opt for a 72-month loan and that would reduce instalments by a few hundred rand.

Interestingly, it is possible to get ­into a longer term and later on when you get a bonus or lump-sum amount, make a big payment and then demand a recalculation of the loan.

This could reduce either the term or the ­instalments. The NCA allows for a ­recalculation.

The process of acquiring a car should be weighed up against the individual’s overall financial goals and plans.

I cannot overemphasise the importance of consultation. Consumers who are not sure about what to do when entering into long-term contracts should consult a financial planner in order to get objective ­advice.

» Diale is a financial planner. He can be contacted on 078 775 0802

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