Definition
Hire Purchase is a financial agreement where a buyer makes an initial deposit and then pays the remaining balance through equal installments over an agreed period. Ownership of the item is transferred to the buyer only after the final payment is made. The buyer is essentially hiring the item until they complete the payment and purchase it.
Key Takeaways
- Hire Purchase (HP) is a financial agreement allowing for the deferred purchase of goods. The customer can take and use the goods immediately but does not own the goods until the full amount specified in the agreement has been paid.
- HP agreements usually require an initial deposit and subsequent monthly installments. These payments cover the cost of the goods as well as the interest charged by the finance provider.
- The borrower is responsible for the goods’ upkeep and maintenance as though they owned it, however, since legal ownership remains with the lender until the last payment is made, failure to keep up the payments could result in the goods being repossessed by the lender.
Importance
Hire Purchase is an important financial term as it provides an avenue for consumers and businesses to acquire assets without needing to pay the full cost upfront. This facilitates the purchasing of high-value items like vehicles, machinery, or equipment by breaking down the payment into manageable monthly installments.
It is essentially a form of secured loan where the goods become the property of the buyer only after the final installment is paid. Hence, it’s crucial not just in promoting commercial activity by aiding cash flow management and eliminating the burden of huge initial outlays, but also providing inclusivity for individuals or businesses with limited capital.
This loan agreement also legally protects the rights of both parties involved. Therefore, the concept of Hire Purchase plays an essential role in boosting economic activity and financial flexibility.
Explanation
Hire Purchase (HP) is a financing option primarily used for the acquisition of high-value items like vehicles, machinery, or equipment without the need for full payment upfront. The purpose of HP is to facilitate ownership of expensive assets by spreading the cost over a period of time, making acquisition more affordable for individuals or businesses that do not have substantial immediate funds.
This method allows the purchaser to secure an asset immediately for use, fostering continuity of personal or business operations while budgeting for the cost over the agreed contract duration. In the context of use, Hire Purchase enables users to gain immediate access to expensive assets without a significant impact on their cash flow.
This is particularly beneficial to businesses, as they can utilize the asset for income generation before it’s fully paid off. The user will make regular fixed payments over an agreed term, typically including an initial deposit, and obtains ownership of the asset at the end of the period once all payments have been made.
It also provides businesses with the advantage of claiming capital allowances, as the asset is considered a capital good from the beginning of the agreement.
Examples of Hire Purchase
Car Financing: Perhaps the most common example of a hire purchase agreement is in car financing. Rather than pay for the whole price of the car upfront, the buyer makes a deposit and then pays off the rest of the value in installments over a given period of time. Once the final payment is made, ownership of the vehicle is officially transferred to the buyer.
Furniture & Appliances: Another typical example of a hire purchase agreement could be seen in the purchase of furniture or appliances. Stores often offer finance packages where customers pay a deposit and then spread the cost of the item over many months or even years. Once all the payments have been made, the customer will own the item.
Industrial or Agricultural Equipment: Businesses, particularly in sectors like agriculture or manufacturing, often use hire purchase agreements to obtain expensive machinery or equipment. The business can use the equipment while making payments and ownership is transferred once the final payment is made. This is a practical way for businesses to acquire necessary equipment without the need to make significant upfront capital investments.
Hire Purchase FAQs
What is Hire Purchase?
Hire Purchase (HP) is a financing option where the buyer makes an initial deposit, usually a percentage of the total price, and makes subsequent monthly payments over a specified period. Ownership of the item in question is not assumed until the full balance has been paid.
How does Hire Purchase work?
In a Hire Purchase contract, the buyer first pays a deposit, usually around 10% of the total cost of the item. The remaining balance, plus interest, is then divided over a contract term which could range anywhere from 12 to 60 months. The buyer pays this remainder in monthly installments over the term of the contract.
What are the advantages of Hire Purchase?
Hire Purchase allows the buyer to spread the cost of an expensive item over a longer period, making it more affordable. It can be ideal for individuals and businesses that need to use costly equipment or machinery but cannot afford to pay the full price up front.
What are the disadvantages of Hire Purchase?
One of the main disadvantages of Hire Purchase is that the buyer doesn’t own the item until they have paid the final installment. This means that the item can be reclaimed by the lender if payments are not kept up. The total cost of the item can also end up being higher than the initial price due to added interest.
Is Hire Purchase the same as a loan?
While similar, Hire Purchase is not the same as a loan. In a loan, the borrower receives the full amount upfront to purchase an item and repays the loan in installments. In Hire Purchase, the buyer makes a down payment and takes possession of the goods, but the lender retains ownership until the buyer has paid in full.
Related Entrepreneurship Terms
- Down Payment
- Ownership
- Finance Charge
- Instalment Plan
- Repossession
Sources for More Information
- Investopedia: A comprehensive resource for learning about all aspects of finance and investing, including hire purchase.
- The Balance: Offers personal finance advice and information on topics ranging from investing and debt management to job hunting and retirement planning.
- Khan Academy: An educational platform that provides free online courses, lessons and practice, including finance and capital markets.
- Financial Times: An international daily newspaper with a special emphasis on business and economic news, including topics related to finance.
