What Is Hire Purchase System ?
It is a method of acquiring expensive assets under which buyer get the right to use products without making the whole payment. He/she obtains the asset by making the partial payment and the remaining amount is paid periodically in installments (interest is added in installment amount). The ownership of the asset remains with the seller and it will be transferred to the buyer after the payment of final installment. Hire purchase is beneficial for both sellers and buyers but it has some drawbacks also. In this post we discuss about the pros and cons of hire purchase system.
Benefits Or Advantages Of Hire Purchase System
The main advantages of hire purchase can be highlighted as follows:
Benefits Of Hire Purchase To The Sellers
1. Market Expansion
Hire purchase allows the customers to use expensive items or products without making the full payment. So, it attracts more potential customers which helps the seller to expand the market.
2. Increased Sales And Profit
It encourages the customers to buy more goods because the payment can be made in installment. So, it helps to increase sales which leads to increase in the profit of sellers.
3. Extra Income
Another benefit of hire purchase to the seller is that he/she can earn some extra income in the form of interest which is added in the installment amount.
4. Less Riskier
Hire purchase system is less riskier than installment system because ownership of the asset is not transferred to the buyer until the final payment. The seller can acquire the product or asset if the buyer fails to make regular payment.
Benefits Of Hire Purchase To The Buyers
1. Suitable For Small Traders
It reduces the financial burden of small traders because they can acquire expensive items such as plant, machinery, vehicle etc. by making periodic payments. It eliminates the complexities of borrowing fund from other sources to run the business.
2. Easier To Buy
In hire purchase system, buyers make payments in installment. So, Customers having lower income can buy required products easily.
3. Immediate Use
Buyers can use the products immediately after the first installment.
4. Tax Benefit
Interest payable is deducted from taxable income which provides tax benefits to the buyers.
Drawbacks Or Disadvantages Of Hire Purchase
The main disadvantages of hire purchase system can be highlighted as follows:
Disadvantages Of Hire Purchase To The Sellers
1. Huge Capital Required
Sellers require huge amount of investment to acquire expensive assets such as car, plant, machinery etc. to run hire purchase business.
2. It Involves Risk
Although the seller can take back the item in case of default payment, he cannot recover the actual cost of the product because value of second hand product is decreased.
3. Increased Bad Debt
If customers do not pay the installment in time, it may increase the amount of bad debt.
Also Read:
Advantages And Disadvantages Of Leasing
Features Of Hire Purchase System
Difference Between Hire Purchase And Installment
4. Work Load
Hire purchase may increase the workload of the seller because more clerical and paper work is required to maintain sales accounts.
Disadvantages Of Hire Purchase To The Buyers
1. No Ownership Of Assets
Ownership of item is not transferred to the buyer until the final installment. So, seller can repossess the asset in case of default payment.
2. Higher Cost
Sellers add extra cost (interest) in the selling price of the asset. So, buyer has to pay more than the actual price of the item.
3. Larger Duration
It takes very long time to make full payment which may create frustration to the buyer.
4. Risk Of Overspending
It attracts more audience because of the periodical payment system. It may create artificial demand for the product in the market. Buyer may be tempted to buy unnecessary and expensive items. So, higher purchase may encourage overspending.
Pros:
- Sellers can attract more customers which helps to increase sales and profit
- Seller can earn extra income in the form of interest
- There is less risk for the seller because ownership of the good remains with him until the last installment.
- Buyer can obtain expensive item by making small initial down payment
- It may provide tax benefit to the buyer
- It is very beneficial to the small business firms to acquire valuable fixed assets
Cons:
- Large amount of capital is required to run hire purchase business
- There is a risk of default payment
- There exists a chance of increase in bad debts
- Because of the interest, buyers have to pay more than the actual amount
- It encourages overspending to the buyers
