Hire Purchase Agreement

Hire purchase is used when someone cannot afford to buy the item; a deposit is usually paid and the balance is paid over a fixed period of time.

How Does a Hire Purchase Work?

A customer is usually required to pay a deposit. From there, the interest is charged onto the balance that is owed and this is then divided into equal instalments which are paid over a fixed period of time.

We use the simple interest formula for this calculation.

Example 1

An electronics company offered a $1,200 television to the purchaser where a deposit of $100 was provided upfront with the balance to be paid over 18 equal monthly instalments. Interest is charged at 12.4% p.a. flat rate.

a) What is the total interest paid?

We need to calculate the balance of the loan first. Write down the information applicable to this calculation.

Price = $1,200$
Deposit = $100$

Use this information to calculate the balance of the loan.

Balance $=$ cash price $-$ deposit
Balance $=1,200 - 100$
Balance $=1,100$

Now write the balance ( $P$ ) and additional information we were provided with- making sure that the rate and time are in the same units.

$P=1,100$
$r=12.4$ p.a.
$T=1.5$ years

Use the simple interest formula to calculate the amount of interest.

$I=\dfrac {PrT}{100}$
$I=\dfrac {1,100\times 12.4\times 1.5}{100}$
$I=204.6$

Total interest paid will be $204.60.

b) Calculate the repayment value.

First, find the total repayment amount (not including the deposit).

Total repayment = interest + principal
Total repayment = $204.60+1,100$
Total repayment = $1,304.60$

To calculate the repayment amount, take the total amount and divide it by the number of repayments.

Repayment = $\dfrac {1,304.60}{18}$
Repayment = $72.477$

The regular monthly instalments are $72.48.

c) What is the total cost of the television?

To find this amount, add the marked price with the interest amount.

Total cost = $1,200+204.60$
Total cost = $1,404.60$

The total cost of the television is $1,404.60.

Advantages

The purchaser can use the goods while they are being paid off
The cost of the items are spread over a long term with small amounts being paid

Disadvantages

The cost of the goods is higher in the long run
The purchaser does not legally own the items, the finance company does (until paid off)
The finance company can repossess the goods and retain all previous payments should the purchaser forfeit making the payments

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