HIRE PURCHASE SYSTEM

UNIT 3
MEANING
When goods are sold on credit, for which
payment is made by the buyer in
installments over a period of time.
It is called Hire Purchase System.
FEATURES
1. Hire Purchase is an agreement between two parties called Hire
Vendor & Hire purchaser
2. The agreement provides for parting the possession of goods, by
the seller, with an option to purchase or hire the goods by buyer
3. Payment for the goods will be made by the hire purchaser in
installments
4. If the hire purchaser pays all the installments, the ownership of
the goods will be transferred on payment of last installment,
resulting the transaction in ‘purchase’
5. If hire purchaser stops paying the installments, the hire vendor
repossesses the goods resulting the transaction in ‘hire’. In such
case, each earlier installment paid will be treated as hire charges
6. In case the transaction resulting in purchase, each installment
paid will be inclusive of:
a. Payment towards price of the goods (i.e., principal amount) &
b. Payment of interest
INSTALLMENT PURCHASE SYSTEM
MEANING
Installment payment system (also called as
Deferred installments) is a payment where
the buyer is given the ownership as well as
the possession of the goods at the time of
signing the contract. The buyer has the
facility to pay the price in installments.
DEFINITION
According to J.R. Batliboi
“Installment Purchase System is a system
under which there is an agreement to
purchase & pay by installments, the goods
which become the property of the
Purchaser immediately when he receives
the delivery of the same”.
FEATURES
1. Under this system, there will be an outright sale
of goods/assets
2. The possession as well as the ownership is
passed on to the buyer right at the time of
signing the contract
3. The buyer can make the payment in installments
4. In case of default in payment, the seller cannot
reposses the goods, but he can sue the buyer
for the recovery of unpaid price
5. The buyer cannot exercise the option of
returning the goods & terminate the contract,
unless the same becomes void or voidable
under the contract act.
DIFFERENCE BETWEEN HIREPURCHASE
AND INSTALLMENT SYSTEM
DIFFERENCES BETWEEN SALE &
HIRE PURCHASE
 Important terms under
Hire Purchase
1) Hire Purchaser
2) Hire vendor
3) Cash price
4) Hire Purchase price
5) Installment money
6) Deposit:
7) Net Cash price
8) Net Hire purchase price
9) Hire purchase charges
10) Statutory Hire Purchase charges
11) Hire Purchase agreement
 CONTENTS
 Date of Agreement
 Details of Seller
 Details of Purchaser
 Date and period of let out
 Name, type and model of the
asset
 Details of Installment expenses
 Cash Price
 Hire Purchase Price
 Payment Details
 Authority of Inspection
 Consequences of Default
 Termination of Hire Purchase
Agreement
 Hirer can terminate the agreement at any point
of time giving 14 days notice to the owner.
 Additional charges may be imposed to hirer.
 Hirer need not pay this additional charge if he has
already paid more than half of the amount due by
him before termination of agreement.
 On termination, the hirer has to deliver or
tender goods to owner.
 The owner will have right to retain the amount
already received & to recover the arrears of hire
due.
 Differences between
Agreement to Sell
&
Hire Purchase Agreement
 INFORMATION REQUIRED FOR
HIRE PURCHASE ACCOUNTING
 Date of purchase and down payment
 Date at which the installments become due
 Date of closure of accounts
 Total cash price
 Amount of each installment
 Rate of interest
 Rate of depreciation
 Hire purchase price
 Method of depreciation
 Cash price in each installment
 METHODS

Asset Accrual
Method

Outright
Property Method

Interest Suspense
Method
 Asset Accrual Method
1. When the asset is purchased
No Entry
2. When the down payment is made
Asset A/c Dr.
To Bank A/c
3. When the installment becomes due
Asset A/c Dr.
(with cash price part of installment)
Interest A/c Dr.
(interest on installment)
To Hire vendor A/c
4. When installment is paid
Hire Vendor A/c Dr.
To Bank A/c
5. When depreciation is charged
Depreciation A/c Dr.
To Asset A/c
6. When interest and depreciation accounts are closed by transfer to P/L A/c.
P/L A/c Dr.
To interest A/c
To Depreciation A/c
 JOURNAL ENTRIES
1. When the item is sold on hire purchase basis:
Hire Purchaser’s A/c Dr.
To Sales A/c
(With the cash price only)
2. When the down payment is received
Bank A/c Dr.
To Hire Purchaser’s A/c
3. When the interest becomes due
Hire Purchaser’s A/c Dr.
To interest A/c
4. When the installment is received
Bank A/c Dr.
To Hire Purchaser’s A/c
5. When the interest account is closed by transfer to P/L account
Interest A/c Dr.
To P/L A/c
STEPS IN HIRE PURCHASE SYSTEM
A. Ascertainment of Amount of Interest
While calculating interest we may face the
following two situations:

When rate of
interest, total cash When hire purchase
price is “Inclusive” of
price and interest (i.e. HP>CP)
installments are
Ascertainment given.
of Amount of
Interest When total cash
price and
installments are When hire purchase
price is “Exclusive” of
given, but rate of interest (i.e. HP=CP)
interest is not
given
When rate of interest, total cash price and
installments are given.
When total cash price and installments are given,
but rate of interest is not given

STEPS TO CALCULATE INTEREST

I. Calculate the total interest by subtracting

the total cash price from the total hire
purchase price
II. Calculate the amounts of hire purchase
outstanding at the beginning of each year
after subtracting the down payment.
III. Find out the ratio of outstanding amounts
calculated in Step II.
IV. Apply this ratio to the total interest and
calculate the interest of each installment.
B. Ascertainment of Total Cash Price

WITHOUT WITH
ANNUITY ANNUITY
TABLE TABLE

Case 1- When
Installment is
constant

Case 1I- When

Installment is
varying
 WITHOUT ANNUITY TABLE

 Under this method interest is calculated

starting with the last installment
 Interest is to be calculated on the
outstanding amount of cash price.

Formula to calculate Interest

 WITH ANNUITY TABLE

 In the annuity table the rate of interest is

given in the rows and the years in the
columns.
 With reference to the table, the present
value of each installment can be calculated.
 The sum of these present values as
calculated, if added to the cash down
payment, would give the cash price.