B Com 1st Semester HIRE PURCHASE SYSTEM UNIT-2

Meaning of Hire Purchase System: HPS is a system under which the buyer (hire purchaser)
buys an asset from the seller (hire vendor) on the condition that the value of an asset is paid in
certain number of installments with interest for the unpaid balance.

It refers to the system, in which the sellers of goods deliver the goods to the buyer immediately
after signing the agreement without transferring the ownership of goods. The payment for the
goods will be made by the buyer in certain number of installments. The ownership of the goods
will be transferred to the buyer after the payment of last installment. Such a system is called
as Hire Purchase System.

Features of Hire Purchase System:

1. Parties: Hire purchase is an agreement between 2 parties called Hire Vendor and
HirePurchaser.
2. Delivery of Goods: The buyer (Hire purchaser) takes the delivery of goods
immediately after signing the Hire Purchase agreement
3. Legal Ownership: The legal ownership passes from Hire vendor to Hire purchaser only after
payment of all the installments with interest
4. Hire Vendor Right: If the hire purchaser stops paying the installments, the hire vendor has
right to repossesses the goods from the Hire purchaser.
5. Hire purchaser Right: The Hire purchaser can also return the goods to the hire vendor.
The amount which he has already paid will be treated as hire charges for the use of
goods.
6. Hire purchase Price: The Hire purchase price is always more than the Cash price of
the goods, the HPP includes Cash price and interest.

Meaning of Installment Purchase System: it is the system 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.
Features of Installment Purchase System:
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
ofsigning the contract.
3. The buyer can make payment in installments.
4. In case of default in payment, the seller cannot repossess the goods, but he can sue
thebuyer for the recovery of unpaid price.
5. The buyer cannot exercise the option of returning the goods and terminate the contract.

Differences between Hire Purchase System and Installment Purchase System:

Sl. Basis of Difference Hire Purchase System Installment Purchase System
No
1 Nature of Contract It is a contract of hiring It is a contract of sale
2 Ownership It is transferred by seller to It is transferred by seller to buyer
buyer after the payment of last on signing the contract
installment
3 Position In this case, the buyer is like a In this case, the buyer is not in the
bailee position of a bailee
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 B Com 1st Semester HIRE PURCHASE SYSTEM UNIT-2

4 Risk of loss or Damage Such risk is on the seller Such risk is on the buyer
of goods
5 Repossession of goods On non-payment of any On non-payment of any installment
installment by the buyer, the by the buyer, the seller cannot
seller can repossess the goods repossess the goods. But he can file
a suit in the court of law.
6 Return of Goods The buyer can exercise the The buyer cannot exercise the
option of return of goods option of return of goods
Important terms and provisions under Hire Purchase:
1. Hire Purchaser: An hire purchaser is a person who buys goods under Hire Purchase
System
2. Hire Vendor: An hire vendor is a person who sells the goods under HPS.
3. Cash Price: it refers to the actual selling price at which the goods are sold.
4. Hire Purchase Price: it refers to the price at which the goods are sold under “Hire
Purchase system”. It includes cash price of the goods and interest.
5. Installment Money: it refers to a part of Hire Purchase price paid by hire purchaser, in
periodic intervals.
6. Deposit or Down Payment: It is the first payment made to the hire vendor by the hire
purchaser at the time of delivery of goods or the signing of the hire purchase agreement.
7. Net cash Price: it refers to the difference between cash price of the goods and the deposit
(Down Payment). It is the amount on which interest is calculated.
8. Net Hire Purchase Price: it refers to the hire purchase price of the goods less
a) Delivery charges, b) Registration charges and c) insurance charges.
9. Hire Purchase Charges: it refers to the difference between net hire purchase price and
the cash price of the goods. It is also called as “Interest”.
10. Statutory Hire Purchase Charges: section 7 of the Hire Purchase Act, 1972 restricts
hire purchase charges at a maximum of 30% of cash installment and for each installment.

Termination (Cancellation) of the Hire Purchase Agreement:

The hire purchaser can terminate the agreement at any time giving 14 days prior notice to the
owner. On termination, the hirer has to deliver the goods to the owner. The owner will have the
right to retain the amount already received and to recover the arrears of hire due.
Rights of Hire Vendor:
1. He has the right to charge interest on hire purchaser
2. He has the right to repossess the goods the goods on non-payment of any
installmentmoney by the hire purchaser.
Rights of Hire Purchaser:
1. The hire purchaser can return the goods if he doesn’t want to complete the transaction.
The hire vendor cannot terminate the hire purchase agreement due to the failure on thepart of
the unauthorized breach of contract without prior notice.

Rebate: The hirer can claim rebate from the owner or hire vendor in case he decides to remit the balance
of the purchase price in lump sum without continuing the hire purchase agreement till the last date
stipulated. For this hire purchaser has to give 14 prior notice to the owner for making balance payment.

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B Com 1st Semester HIRE PURCHASE SYSTEM UNIT-2

Accounting Treatment in the Books of Hire Purchaser:

There are 3 methods:

1. Asset Accrual Method: under this method asset is recorded at the cash price actually
paid. Here, the asset will not become the treating goods not becoming the property.
2. Outright Property Method: under this method the asset is recorded at full cash price.
This method is also known as credit purchase with interest or sales method.
3. Interest suspense method: This method is applicable in case of installment purchase
system.
Asset Accrual Method: (Journal Entries or Ledger Accounts)
Accounting Treatment in the Books of Hire Purchaser (Journal Entries):
Sl. Journal Entry
No.
1 When the Down Payment is Made:
Asset A/c Dr
To Bank A/c
2 When the installment becomes due at the end of the Year:
Asset A/c (with the amount of installment) Dr
Interest A/c Dr
To Hire Vendor A/c
3 When installment is paid:
Hire Vendor A/c Dr
To Bank A/c
4 When Depreciation is Charged:
Depreciation A/c Dr
To Asset A/c
5 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
Note: The Above Journal Entries From sl. No. 2 To 5 (4 Entries) should be
repeated for subsequent years.

Ledger Accounts: Four (4) Accounts are to be Prepared:

1. Asset A/c
2. Hire Vendor A/c
3. Interest A/c
4. Depreciation A/c

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B Com 1st Semester HIRE PURCHASE SYSTEM UNIT-2

Different Situations under Hire Purchase Accounting:

1. When the cash price, rate of interest and installments are given.
2. When the cash price and installments are given without rate of interest.
3. When the cash price, rate of interest and installments excluding interest is given.
4. When the cash price is not given.

Format for calculation of interest:

Cash Price xxxx

Less: Down Payment xxx
Balance xxx
Add: interest for the First Year xxx
xxx
Less: First installment Paid xxx
Balance xxx
Add: interest for the Second Year xxx
xxx
Less: Second installment Paid xxx
Balance xxx
Add: interest for the Last Year (Balancing Figure) xxx
xxx
Less: Last Installment Paid xxx
Balance Nil

Problems (Situation-1 Based: When the cash price, rate of interest and installments are given):
1. On 1st April 2018, the ABC Company bought a machine from HMT Ltd. On hire purchase
system. The cash price was Rs. 26,350 and the payment was to be made as follows: Rs. 10000 on
signing of the agreement and the balance in 3 yearly installment of Rs. 6000 each, 5% interest is
charged by the hire vendor. Calculate the interest for each installment.

2. Mr. Ashok purchased a Machine on hire purchase system from Bharath Motors on 1.4.2016.
The cash price of the machine was s.74,500 and the payment was to be made as follows: on signing
of the agreement Rs. 20,000 and the balance in 3 installments of Rs. 20,000 each at the end of each
year. 5%interest is charged by the vendor. Mr. Ashok has decided to write off 10% depreciation
annually o the diminishing balance method. Calculate interest and Depreciation for each year.

3. On 1st April, 2020 the Thirupathi industries bought a machine from HAL Ltd. On hire purchase
system. The cash price of the machine was Rs. 37,250 and the payment was to be madeas follows:
Rs. 10,000 on signing of the agreement and the balance in yearly installments of Rs. 10,000 each
on 31st Mach every year. The HAL Ltd charges interest at 5% p.a. and Thirupathi industries writes
off 10% every year on reducing balance method. Pass the necessary journal entries in the books
of Thirupathi industries.

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B Com 1st Semester HIRE PURCHASE SYSTEM UNIT-2
4. Mr. Hanuman purchased two trucks on hire purchase system on 1st April 2018. The cash price
being Rs. 56,000 and payment is to be made as follows: on signing of the contract Rs. 15,000
and thee after Rs. 15,000 being paid annually for 3 years. Interest was charged at 5% p. a.
Depreciation was written off at the rate of 20% p.a. on the reducing balance system. Prepare
necessary ledger accounts in the books of Mr. Hanuman under Asset Accrual Method.

Problems (Situation-2 Based: When the cash price and installments are given without rate of
interest):
5. on 1.4.2018 XYZ Company Ltd. Took delivery from ABC Company Ltd. A Machine on hire
purchase system. Rs. 1500 being paid on delivery and the balance in 5 installments of Rs. 3000
each payable annually on 31st March. The cash price of the machine was Rs. 15,000. Calculate
the interest for each year.
6. A Mini Bus is purchased for Rs. 160000 under hire purchase system on 1.4.2016. the amount
payable is Rs. 40,000 on entering the agreement and the balance in 3 annual installments of Rs.
50,000 each at the end of the year. Depreciation is charged at 10% p.a on written down value
method. Show the necessary ledger accounts in the books of the purchaser under Asset
Accrual method.

7. Mr. Gupta purchased a machine on 1.4.2015 under hire purchase system from Mr. Pankaj. The
cash price was s.15,500. The payment is to be made as under: on signing of the agreement Rs.
3,000, first year end Rs.5,000, second year end Rs. 5,000 and third year end Rs. 5,000. Charge
depreciation at 10% on diminishing balance method. Make necessary journal entries in the
books of Mr. Gupta under Asset Accrual Method.

Problems (Situation-3 Based: When the cash price, rate of interest and installments excluding
interest is given):
8. Calculate the Value of each installment from the following details:
Cash price=Rs. 12,000: Down payment=20% 0f cash price: Balance of cash price is payable in
3equal installments together with interest at 10% on the outstanding cash price.

9. On 1st April 2018 Bhaskar purchased a machine from Lohith on hire purchase basis. The
particulars are as follows:
i. Cash price Rs.1,00,000
ii. Rs. 40,000 to be paid on signing the contract
iii. Balance in three installments of Rs.20,000 Plus interest
iv. Interest charged on outstanding balance at 5%
v. Depreciation at 10% p.a on written down value method.
Draft necessary journal entries in the books of Mr. Bhaskar under Asset Accrual Method.

10. On 1st April, 2013 Mr. Arjun purchased a Washing Machine from Gruha enterprises on hire
purchase basis. The cash price of the machine was Rs. 25,000 payable Rs.5,000 on signing the
agreement and the balance in 4 annual installments of Rs.5,000 Plus Interest at 5% p.a. payable
on 31st Mach each year. Mr. Arjun writes off depreciation at 10% p.a. on diminishing value of the
machine. Show necessary ledger accounts in the books of Mr.Arjun.

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B Com 1st Semester HIRE PURCHASE SYSTEM UNIT-2

Problems (Situation-4 Based: When the cash price is not given):

11. Calculate the cash price of an Asset from the following:

1. Rs. 3,000 paid at the time of agreement
2. Rs. 21,600 paid at the time of I year
3. Rs. 20,700 paid at the time of II year
4. Rs. 19,800 Paid at the time of III year
5. Rs. 18,900 Paid at the time of IV year
Rate of interest is 5% p.a
Rate of depreciation 25% p.a Straight line method.

12. Mr. Kumar purchased a Car on hire purchase system from Maruthi Ltd. on 1.4.2018. he pays
Rs.10,000 down payment and Rs.8,000, Rs.7,000, Rs,6,000 at the end of 1st, 2nd and 3rd year
respectively. Interest charged by the vendor 20% p.a. Kumar writes off 10% on diminishing
balance method. Prepare the necessary ledger accounts in the books of Mr. Kumar under
asset Accrual Method.

Exam Problems: (6 Marks)

13. Mrs. Priya purchased a motor car on hire purchase system. Calculate the cash price of the
motor car from the following details: (December-2018)
Down payment Rs.50,000;
I yearly installment Rs.70,000;
II yearly installment Rs.90,000;
III yearly installment Rs.82,500;
Rate of interest is 10% p.a.

14. National Trading company bought a motor van from Honda Company on hire purchase system
over a term of 2 years starting from 1sr April 2016. The cash price of the motor van was Rs. 29,740
and the payment was to be made as follows: s. 2,740 on signing of the agreement and the balance
in 4 half yearly installments of Rs. 7,500 each. The Honda Company charges interest at the rate of
8% p.a. working on half yearly interest. Calculate the Interest included in each
installment.(Nov/Dec-2018)

15. Ms. Veena Purchased a motor car on hire purchase system. Calculate cash price of the
motor car from the following.
Down payment Rs. 20,000; 1st yearly installment Rs.28,000; 2nd yearly installment Rs. 36,000;
3rd yearly installment Rs. 33,000; rate of interest 10% p.a.(Nov/Dec-2017)

14 Marks Problems:
16. on 1-1-2012 Deeksha and company purchased a machinery under hire purchase system. The
cash price was Rs. 17,000 payable as under: Rs. 2,000 on signing the agreement and the balance
in 3 installments of Rs. 5,000 each together with interest at 8% p.a. on 31st December each year
the asset is depreciated at 10% p.a. on original cost method.
Prepare necessary Ledger accounts in the books of Deeksha And Company under Asset
Accrual method. (Nov/Dec-2017)

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B Com 1st Semester HIRE PURCHASE SYSTEM UNIT-2

17. Ram purchased a Car on hire purchase system from Sagar Motors on 1.4.2016. he pays
Rs.1,00,000 down payment and Rs.80,000, Rs.70,000, Rs,60,000 at the end of 1st, 2nd and 3rd year
respectively. Interest charged by the vendor 20% p.a. Ram writes off 10% on diminishing balance
method. What was the cash price of the motor car? Prepare the necessary ledger accounts in
the books of Ram under asset Accrual Method. (Nov/Dec-2018)

18. On 01.01.2014 Madhu and Company purchased Machinery under hire purchase system. The
cash price was Rs. 170,000 payable as under: Rs. 20,000 on signing the agreement and the balance
in 3 installments of Rs. 50,000 each together with interest at 8% p.a. on 31st December each year
the machinery is depreciated at 10% on original cost method.
Prepare necessary Ledger Accounts in the books of Madhu And Company under Asset
Accrual Method. (December-2018)

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