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UNIT 3Hire purchase and installment payment system Q1) Explain hire purchase systemA1) If you purchase a TV for cash, you pay, say, Rs.15,000. But if you wish to make the payment by installments of say, Rs.3,000 each, every year, you may be required to pay four installments, that is Rs.20,000 in all. The extra amount of Rs.3,000 is for interest. If you choose the latter mode of the payment, you should debit Rs.5,000 to interest and treat the TV as valued at Rs.15,000 (and not at Rs.20,000). In case payment is to be made by installments, there may be two kinds of arrangements. Each installment may be treated as a ‘hire’ the purchaser becoming the owner only if he pays all the instalments. In other words, property does not pass to him even if one installment remains unpaid. The seller will have the right to take away the goods in case of default in respect of any installment. This is known as ‘Hire Purchase ‘system.According to J.R. Batliboi, ‘‘Under the Hire Purchase System, goods are delivered to a person, so agrees to pay the owners by equal periodical instalments, such instalments to be treated as hire of those goods, until a certain fixed amount has been paid, when these goods become the property of the hirer. Important Terms in Hire Purchases system

Hirer-Hirer is a person who buys or in this case who obtains the possession of the goods from the owner as per the Hire purchase Agreement.

Hirer Vendor-Hirer vendor or the owner is a person who lets or who has delivered or delivers the goods to hirer under an agreement. Hire vendor is the seller of the goods on the hire purchase system.

Cash Price-The cash price is the price of the goods which can be purchased by cash or the retail price, if not purchased under hire purchase system.

Hire Purchase Price-It is the total amount payable by the hirer under the hire purchase agreement, in the agreed number of installments for the purchase of goods. Hire purchase price is the total of cash price and interest.

Hire purchase price=Cash price + Interest 5. Interest-Interest is the amount which is payable in addition to the actual cash price of the goods. It is the amount paid by the buyer for the delayed and postponed payment. 6. Hire Installment-It is the amount payable periodically by the hirer or the buyer, installment may be an equal amount or different amounts which are based on the agreement. 7. Down Payment or initial amount-The amount is a lump-sum out of the total Hire purchase price, payable to the vendor in advance while the agreement is signed, which does not carry any interest on it. Features of hire purchase system

Hire-purchase system is governed by Hire-purchase Act, 1972.

It is an agreement of hiring.

It is an agreement between hirer and hire-vendor.

Terms and conditions between the parties are entered and recorded in a document called hire-purchase agreement.

Cash price of goods is paid in instalment on agreed terms.

The title of goods passes on last payment.

The hire-vendor can take possession of goods if hirer is failed to pay instalment.

The hirer is not responsible for risk of loss of goods, till the ownership is transferred.

The hirer cannot mortgage, hire, sell or pledge the goods.

The hirer has not a right to terminate the agreement at any time before x property so passes.

Q2) Explain calculation of interestA2) Calculation of interestInterest: In either case (hire purchase or instalment) interest must be separated from the principal sum due. Since payments continue over two or more financial year’s interest must be calculated for each year separately. Usually information is available regarding cash price and the rate of interest. Calculation of interest then becomes easy. Just prepare the account of one of the parties on ordinary lines and charge interest on the balance due. Suppose on 1st January, 2000 A purchases from B machinery whose cash price is Rs.15,000; Rs.5,000 is to be paid down, that is on signing of the contract, and Rs.4,000 is to be paid at the end of each year for 3 years. Rate of interest is 10% p.a. If we prepare B’s account (on a memorandum basis) in A’s books, we shall know the interest for each year.A’s Books

Dr.			B’s Account		Cr.
		Rs.			Rs.
2000			2000
Jan.1	To Cash	5,000	Jan.1	By Machinery A/c	15,000
Dec.31	To Cash	4,000	Dec.31	By Interest A/c	1,000
’’	To balance c/d	7,000		(10% on Rs.10,000)
		16,000			16,000
2001			2001
Dec.31	To Cash	4,000	Jan.1	By Balance b/d	7,000
	To Balance c/d	3,700	Dec.31	By Interest A/c
				(10% on Rs.7,000)	700
		7,700			7,700
2002			2002
Dec.31	To Cash	4,000	Jan.1	By Balance b/d	3,700
			Dec.31	By Interest A/c*	300
		4,000			4,000

* As it is the last year of installment, interest amount will be the difference between the Outstanding balance and the actual amount of installment. [Students should note that if you calculate interest for the last year as per the given percentage on the O/S amount (3700 x 10%=370), total amount payable becomes (3700+370=4070) which is greater than the installment paid. So there will be again Rs. 70 payable even after the last installment being paid.]If the rate of interest is not given, the interest for each year will be in proportion to amount outstanding in each year. In the example given above, the total sum payable is Rs.17,000 out of which Rs.5,000 is paid immediately. This leaves Rs.12,000 as outstanding throughout the first year at the end of which Rs.4,000 is paid. In the second year Rs.8,000 is outstanding and in the third year Rs.4,000 is due. The total interest is Rs.2,000. i.e., Rs.17,000. minus Rs.15,000. The interest should be apportioned over the 3 years in the ratio of amounts outstanding, that Rs.12,000; Rs.8,000 and Rs.4,000 or in the ratio of 3: 2 :1. The interest for the first year is Rs.1,000: for the second year it is Rs.670 and for the third year it is Rs.333. Note that the amount cannot be the same as worked out when the rate of interest is given.To ascertain Cash Price, rate of interest and instalments being given. Sometimes the cash price is not given. Since the asset cannot be debited with more than the cash price, it must be ascertained. The process is to take the last year first and separate interest from principal out of the total sum due. In the example given above, Rs.4,000 is due at the end of 2002. The rate of interest is 10%. If in the beginning of 2001 Rs.100 was due, Rs.10 would be added making Rs.110 as due at the end of 2002. Thus, out of the sum due at the end of the year, one-eleventh is interest; rest is principal. We can proceed year by year like this. Thus: —

	Rs.
Amount due on 31-12-2001	4,000
Interest @ 1/11	364
Amount due on 1-1-2002 or 31-12-2001	3,636
Paid on 31-12-2001	4,000
Total amount due on 31-12-2001	7,636
Interest @ 1/11	694
Amount due on 1-1-96 or 31-12-2000	6,942
Paid on 31-12-2000	4,000
Total amount due on 31-12-2000	10,942
Interest @ 1/11	995
Amount due on 1-1-2000	9,947
Paid Cash down on 1-1-2000	5,000
Cash Price	14,947
The interest for three years is Rs.995, Rs.694 and Rs.364 respectively.

Q3) Explain installment payment systemA3) Installment purchase systemInstalment purchase system where an agreement to purchase and sale is made between the buyer and the seller, here there is an immediate sale on signing the agreement. In actual purchase the price of the goods is paid in lump-sum, but in instalment system instead of paying in a lumpsum, it is spread over a period, interest is being paid on the unpaid balance. This interest amount is determined at the time of signing the agreement itself. The possession of the goods is taken by the buyer after signing the contract itself. The basic difference between instalment system and hire purchase system is the transfer of ownership. In instalment system the title or the ownership is immediately passed to the purchaser, but in the hire purchase system until the entire amount to the last instalment is paid the ownership with the vendor. In case the purchaser makes default of any payment, the seller has no right to repossess like in the hire purchase system, but he can recover the amount due to him by filing a suit in the court of law and can recover the unpaid amount since the buyer is the legal owner of the goods he has every right to sell, transfer, exchange or even destroy it. Q4) Explain difference between hire purchase and installment payment systemA4)

Basis of difference	Hire-purchase system	Instalment purchase system
Operation	This system operates on the basis of hire-purchase agreement.	This system operates on the basis of instalment purchase agreement.
Nature of agreement	This system is based on a agreement of hiring.	This system is based on agreement of sale.
Statutory governance	This is governed by the hire-purchase Act, 1972.	This is governed by the sale of goods Act, 1930.
Parties in agreement	The parties entered into agreement, under this system are called hire and hire-vendor.	The parties concerned are called buyer and seller.
Ownership rights	The ownership passes onto the purchase only on last payment of instalment.	The ownership passes immediately after signing the agreement, although the price of goods will be paid in instalment.
Return of goods	The purchaser may return goods.	The buyer cannot return goods unless and until sells defaults.
Repossession	If the higher makes default in instalment payment, the vendor can take back goods from hirer.	Even if there is any default in instalment payment, the seller cannot take back from buyer.
Risk of loss	Risk of loss of goods lie with vendor.	Risk of loss of goods lie with buyer.
Right of disposal	Buyer cannot hire out, lease, mortgage, destroy, damage, or transfer of goods.	Buyer can have right to dispose goods purchased under this system.
Position relating to instalment	The instalment paid is treated as hire charges for use of goods.	Instalment paid is treated as part redemption of value of goods.
Charges other than cash price	Component other than cash price included in instalment is called ‘Hire Charges.’	Under this system, it is called ‘interest’.

Q5) Explain journal entry in the books of purchaserA5)

Q6) Explain journal entry in the books of vendorA6)

Q7) Show the journal entries for hire-purchase in the books of purchaser and vendorA7)

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