Hire Purchase (HP) is a way of financing a vehicle over a fixed
period of time on a basis similar to a bank loan.
Unlike a typical bank loan though, ownership
of the vehicle remains with the finance company until the final payment is made on
the hire purchase agreement.
In typical hire purchase arrangements the buyer is hire-purchasing the vehicle,
i.e. hiring it for a period of time with a view to purchasing it once an agreed number
of payments or an agreed amount has been paid to the finance company
This avoids the tax drawbacks
of contract hire or leasing for vehicles with higher levels of CO2 emissions.
There may also be a 'sales agency' agreement with the finance company for the finance
company to sell the vehicle on behalf of the buyer for a fixed fee at the
end of the contract, or for the finance company to repurchase the vehicle for an agreed
amount (a 'minimum guaranteed future value').
What's in Hire Purchase Payments?
The finance company has to source the vehicle and dispose of it at the end of the
contract. In addition, the finance company must fund the purchase as well. To cover
these costs the finance instalments comprise:
- The purchase price of the vehicle (less and deposit)
- Interest Charges
- The finance company's profit margin (which might be just the interest charges)
- Maintenance (Optional)
Normally the finance company will include the Vehicle Excise Duty
or 'tax disc' as a part of an optional service or maintenance contract.
Advantages of Hire Purchase
Because the purchase price of the vehicle is repaid at a faster rate than in deferred purchase plans such as contract purchase the interest charges are lower than deferred purchase finance.
At the end of the contract the buyer can take ownership of the
vehicle so it can profit from prudent management of the vehicle, such as achieving
a better resale price than expected.
With an optional purchase and resale agreement the costs of running the vehicle are
fixed during the replacement cycle, so the buyer can avoid unexpected costs.
Tax relief for the
buyer on cars with a CO2 output over 110g/km is not limited in the same way as leasing,
thereby reducing the total costs of contract purchase for cars with higher CO2 emissions compared to leasing, but there are deferrals of tax relief.
From April 2021 the CO2 threshold for tax relief deferral ('special pooling') will drop to 50GP/Km.
Disadvantages of Hire Purchase
Because the finance repayments cover repayment of the full purchase price, rather
than just depreciation, the monthly repayments are more than those of Contract
If the contract is terminated earlier than expected then the buyer may be
required to pay a penalty (possibly a fixed number of instalments, or the difference
between the capital already repaid and the sales proceeds achieved on disposal of
the vehicle, or compensation for the loss in interest charges that the finance
company would have received if the finance agreement had run to its full term).
Under accounting conventions applying at the date of publication, contract purchase
must be disclosed on the balance sheet of a business as a liability. This can worsen
the appearance of the financial position of a business.
For passenger cars (other than pool cars) VAT on the purchase price of the vehicle
cannot be recovered, so the finance instalments are higher than comparable rentals
for finance leasing.
Lease or Buy?
To see the cost impact of leasing or buying your next new car or van click here.