HIRE PURCHASES
What is a 'Hire Purchase'?
A hire purchase is a method of buying goods through making installment payments over time. The term "hire purchase" originated in the United Kingdom and is similar to rent-to-own arrangements in the United States. Under a hire purchase contract, the buyer is leasing the goods and does not obtain ownership until the full amount of the contract is paid.
Hire purchase (HP) is a type of borrowing. It is different from other types of borrowing because you don't own the goods until you have paid in full. Under an HP agreement, you hire the goods and then pay an agreed amount by instalments.
BREAKING DOWN 'Hire Purchase'
To begin a hire purchase, a payment is often required up front. The rest of the amount due is submitted through scheduled payments, similar to an installment loan or a vehicle lease. The ownership of the good purchased through a hire purchase is not officially transferred to the buyer until all required payments have been submitted. Companies offering hire purchase options earn a profit by applying additional costs to the monthly payment which serves as interest charges for the purchase.
Benefits of Using a Hire Purchase
Businesses commonly employ this manner of leasing goods to enhance the appearance of earnings metrics. For instance, by leasing assets, it may be possible to keep the debt used to pay for the assets and the asset itself off the balance sheet, resulting in higher operational and return-on-asset (ROA) figures.
To begin a hire purchase, a payment is often required up front. The rest of the amount due is submitted through scheduled payments, similar to an installment loan or a vehicle lease. The ownership of the good purchased through a hire purchase is not officially transferred to the buyer until all required payments have been submitted. Companies offering hire purchase options earn a profit by applying additional costs to the monthly payment which serves as interest charges for the purchase.
Benefits of Using a Hire Purchase
Businesses commonly employ this manner of leasing goods to enhance the appearance of earnings metrics. For instance, by leasing assets, it may be possible to keep the debt used to pay for the assets and the asset itself off the balance sheet, resulting in higher operational and return-on-asset (ROA) figures.
In circumstances where a buyer either cannot continue to make the required payments or is no longer interested in purchasing the item, it can be returned to the company at which the hire purchase arrangement was made. This may render the original agreement void, as the associated asset has been returned to the store that currently maintains ownership rights on the asset in question.
Risks of Using a Hire Purchase
In the United States, consumer rent-to-own arrangements are controversial because they can be used in an attempt to circumvent proper accounting standards. This can include the lack of credit checks as well as payment amounts that result in higher-than-average amounts of interest effectively being paid.
In the United States, consumer rent-to-own arrangements are controversial because they can be used in an attempt to circumvent proper accounting standards. This can include the lack of credit checks as well as payment amounts that result in higher-than-average amounts of interest effectively being paid.
There have been allegations that U.S. rent-to-own businesses bypass certain consumer protection laws by referring to the purchase contracts as rental agreements instead as an extension of credit. Rental agreements are exempt from the Truth in Lending Act that requires the clear disclosure of interest rates on consumer loan products. This allows rent-to-own businesses to refrain from explicitly stating the associated interest rate paid based on the product's price compared to the monthly payment amounts.
Additionally, if a buyer using a hire purchase fails to make the required payments, the company sponsoring the purchase can repossess the item. Whether a repossession is voluntary or involuntary, the buyer is generally not eligible to receive any funds back that have already been placed toward the purchase.
Section 2(1) Hire Purchase Act 1967 : The agreement which includes hiring of goods and at the same time giving an option to buy. It is a business transaction where by a seller allows a buyer to buy asset(s) by installments, based on interest rate charged.
Characteristics of Hire Purchase
The transaction is based on the rules of Hire Purchase Act 1967 and Hire Purchase Act (amendment) 1976.
(i) Right of the goods is still belonging to seller. The rights will be transferred at the end of the installment period. The owner will have a right to confiscate the assets if installment is not been paid by the buyer.
(ii) Interest rate will be charged on any balance from the payment in certain agreed period. The purposes of the interest rate are for additional administrative/management expenditure and to protect the goods from risk of damaged.
(iii) A buyer will be informed on a cash price but if he/she wants to buy on hire purchase, installment will be made for a certain agreed period.
(iv) Deposit will be charged when the agreement is signed.
(v) Claim of goods. A buyer is assumed to hire the goods. If he/she intends to return/end the agreement, he/she can do so with condition that total installments will not be returned back. However, balances of the installment not need to be paid.
Hire Purchase Documentation
When entering hire purchase contract, normally the procedure of the hire purchase agreement can be described as follows:
⇨ When the customer agrees to buy an asset under a Hire Purchase Contract, he/she is required to complete the Hire Purchase Application Form, which indicates all the particulars about the customer.
⇨ The Finance Company will set an interview with the customer to confirm the entire particulars stated in the Hire Purchase Application Form.
⇨ If the Finance Company is satisfied with the application, the customer will have to receive and complete following details:
i. Offer Letter Form
ii. Acceptance Memorandum
iii. Letter of Statutory Acknowledgement of Customer/ Guarantor
iv. Hire Purchase Agreement
v. Stamp duty
vi. Invoice to finance company
viii. Registration card for the original asset
ix. Cover Note, Copy of Road Tax
The Terms Used
(i) Cash price = price of asset paid at once
(ii) Hire purchase price = cash price + interest
(iii) Installment = schedule payment during required period
(iv) Deposit = down payment / initial payment
(v) Interest = perquisite / profit or privilege given
(vi) The buyer/user = a person who agreed to buy or to accept good(s)
from the dealer based on hire purchase agreement
(vii) The dealer = a person who sells good(s) based on hire purchase
agreement
Source: 1) INVESTOPEDIA
2) ACCOUNTING COACH