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Hire purchase

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  • 1. Hire Purchase
  • 2. Conceptual Framework
    • Hire Purchase is a mode of financing the price of the goods to be sold on a future date.
    • The goods are let on hire, the purchase price is to be paid in instalments and the hirer is allowed an option to purchase the goods by paying all the instalments.
  • 3. Features
    • Payment to be made in instalments over a specified period.
    • The possession is delivered to the hirer at the time of entering into the contract.
    • The property in the goods passes to the hirer on payment of the last instalment.
    • Each instalment is treated as hire charges so that if default is made in payment of any instalment, the seller becomes entitled to take away the goods.
    • The hirer/purchaser is free to return the goods without being required to pay any further instalments falling due after the return.
  • 4. Modus Operandi
    • The finance (hire purchase) company purchases the equipment from the equipment supplier and lets it on hire to the hirer to use it, who is reqired to make a down payment of say 20-25 per cent of the cost and pay balance with interest in Equated Monthly instalments.
  • 5.
    • The interest component of each hire purchase instalment is computed on the basis of a flat rate of interest on a declining balance method method.
  • 6. Hire Purchase Vs Instalment
    • In Instalment sale, the contract of sale is entered into, the goods are delivered and the ownership is transferred to the buyer, but the price of the goods is paid in specified instalments over a definite period.
  • 7.
    • In hire purchase, there is a call option to purchase the goods and the hirer has the right to terminate the agreement at any time before the payment of the last instalment.
    • Whereas in Instalment sale, the ownership is transferred simultaneously with the payment of the first/ initial instalment.
  • 8. Lease Versus Hire Purchase
    • In lease the ownership remains with the lessor, while in hire purchase, it is transferred on payment of the last instalment.
    • The hirer is entitled to claim depreciation.
    • Lease is usually for goods where the funds required is very large like aircrafts, ships etc.
  • 9. Legal Framework
    • Sale of Goods Act
    • Indian Contract Act
  • 10. Modalities
    • The dealer contracts a finance company.
    • The customer selects the goods and expresses his desire to acquire them on hire purchase .
    • The dealer arranges for the full set of documents.
    • The documents are generally printed by the finance company.
    • The dealer sends the documents to the finance company.
  • 11.
    • The finance company, if it decides to accept the transaction, signs the agreement and sends a copy to the hirer along with the instructions for payment of the instalments.
    • The dealer delivers the goods to the hirer against acknowledgement and the property in the goods passes to the finance company.
    • The hirer makes the payment of hire instalment periodically.
    • On completion of the hire term, the hirer pays the last instalment and the property in the goods passes to him on issue of a completion Certificate by the Finance Company.
  • 12. Taxation
    • Though the hire purchaser is not the owner of the asset, he is entitled to claim depreciation as a deduction, on the entire purchase price.
    • The consideration for hire received by the hire vendor, is liable to tax, under the head profits and gains of business and profession. The hire income from house property is generally taxed as income from House property.
  • 13.
    • The tax treatment given to hire purchase is exactly the opposite of that given to lease financing.
  • 14.
    • Accounting
  • 15. In the books of the Purchaser
    • The purchase price is capitalized and the cash purchase less down payment is booked as a laibility.
    • Depreciation is booked on the Asset
    • The charge is divided into a Finance charge and a capital recovery charge.
  • 16. In the books of the Hire Vendor
    • The instalments receivables is recorded as a current asset.
    • The finance income component is recorded as a current liability under the head Unmatched Finance Charges.
    • The instalment received reduces the value of the current asset.
    • Its interest component is recorded as Hire Finance Income.
    • The capital recovery component goes towards reducing the current liability - Unmatched Finance Charges.
  • 17. Questions for Revision
    • What is a Hire Purchase ? How does it take place ?
    • Examine Leasing versus Hire Purchase as methods of Asset Financing ?