Hire Purchase

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.
Features
Payment to be made in instalments over a specified period.
The possession is delivered to the hiree 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.
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 required
to make a down payment of say 20-
25 per cent of the cost and pay
balance with interest in Equated
Monthly instalments.
 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.
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.
 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.
 LEASING HIRE PURCHASE
OWNERSHIP OF Ownership lies with The hirer has the
ASSET the lesser. The lessee option to purchase.
has the right to use The hirer becomes
the equipment and the owner of the
does not have an assets/equipments
option to purchase. immediately after the
installment is paid.
DEPRECIATION The depreciation is Here, the
claimed as an depreciation claim is
expense in the books allowed to the hirer.
of lesser.

RENTAL PAYMENTS The rentals cover the The installment is

cost of using an inclusive of the
asset. Normally, it is principal amount and
derived with the cost the interest for the
of an asset over the time period the asset
asset life. is utilized.
 LEASING HIRE PURCHASE
DURATION Lease agreements are These agreements
generally done for are done mostly for
longer duration and shorter duration and
for bigger assets like cheaper assets like
land, property etc. hiring a car,
machinery etc.
TAX IMPACT The total lease rentals In hire purchase, the
are shown as the hirer claims the
expenditure by the depreciation of asset
lessee in the lease as an expense.
agreement.
REPAIRS AND Repairs and In hire purchase, the
MAINTENANCE maintenance of the responsibility lies with
asset in financial the hirer.
lease is the
responsibility of the
lessee but in
operating lease, it is
the responsibility of
the lesser.
Legal Framework
Sale of Goods Act
Indian Contract Act
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.
 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.
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
 The tax treatment given to hire
purchase is exactly the opposite of
that given to lease financing.
 Lease - definition
A lease is an agreement whereby the lessor
conveys to the lessee , in return for rent, the right
to use an asset for an agreed period of time.

A financing arrangement that provides a firm with

an advantage of using an asset, without owning
it, may be termed as leasing.
 Characteristics of lease
The Parties
The Asset
The Term
The Lease Rentals
 Types of Lease
Financial Lease : Ballon Lease
Operating Lease Close end leasing
Conveyance Type Swap Leasing
lease Wrap Leasing
Leveraged Lease Import Leasing
Sale and Cross Border
Leaseback leasing
Partial Pay-Out International
Lease Leasing
Consumer Leasing
 Types of Lease...
Financial Lease
Also called Capital Lease
A contract involving payment over an obligatory
period, of specified sums sufficient in total to
amortize the capital outlay , besides giving some
profit to the lessor.
ICAI defines it as : financial lease is a lease under
which the present value of the minimum lease
payments at the inception of the lease exceeds or
is equal to substantially the whole of the fair
value of the leased asset.
 Financial lease...

It is non-cancelable in nature.
The lessee is responsible for the
maintenance of the asset leased.
The lease generally provides for
the renewal of the lease on expiry
of the lease contract.
Variants : full payout lease , True
Lease
 Operating Lease
An operating lease is a type of lease
whereby the asset is not fully
amortized during the non-cancelable
period of the lease , and where the
lessor does not rely on the lease
rentals for profits.
Short term lease on a period to
period basis.
Period of the lease is less than useful
life of the asset.
 Operating Lease...
The lease is cancelable at short
notice by the lessee.
The lessee has the option of
renewing the lease after the expiry
of the lease period
Asset maintenance and insurance
etc. is the responsibility of the lessor
and he charges for the same.
It is a high risk lease to the lessor,
as any time it may be cancelled by
the lessee.
Net Lease :
A variant of operating lease, where the lessor
is not concerned with the repairs and
maintenance of the leased asset.

Lessor does not provide:

- repairs, maintenance, servicing of lease
property
- purchasing parts and accessories.
- loan of a replacement/substitute
- purchase of insurance for the lessee.
 Conveyance Type Lease :
Very long type of lease applicable to immovable
property.
Objective to convey the title in property.
Lease periods as long as 99 to 999 years.
Leveraged Lease
Where a financier is involved for the whole or a
part of the financial requirement.
Used for high value asset.
The financier will have charge over the leased
asset, over and above the lease rentals.
 Sale and Leaseback:
Owner of the asset sells it to the lessor,
and gets the asset back under the lease
agreement.
Ownership transfer from the original owner
to the lessor, who again leases out the
asset.
Immediate financing to the seller
company, whose funds are tied up in the
asset.
 Partial pay out lease: Full payment of the lease
in several leases.
Consumer Leasing :Leasing of consumer
durables like Refrigerator, televisions, etc.
Balloon Lease : a lease which has zero residual
value at the end of the lease period. i.e. low
lease rentals at the inception, high in the mid
years, and low again at the end of the lease.
Close end leasing : the asset is reverted to the
lessor at the end of the lease.
Open end leasing : the lessee guarantees a
minimum value to the lessor , from the sale of
the asset at the end of the lease term. If on
sale of the asset, the residual value is less ,
then lessee pays to the lessor the difference
amount.
 Swap Lease: Lessee is allowed to
exchange equipment leased out
when original asset has been sent to
lessor for some repair and
maintenance
Wrap Leasing: Lessee further sub-
lease the asset to the end-user,
retaining a fee and a share of the
residual value
 Import Leasing :
- leasing of imported capital goods.
- beneficial to the lessee, because arranging
other sources of funds takes long. Lenders
do not usually finance the import duty
which forms sizable portion of the cost.
- during which the prices of imported goods
may rise + fluctuation in exchange rates
may happen.
 Cross Border Leasing :
A lease where the lessor is in one country and
lessee in another.
The Jurisdiction of lessors and lessees are in two
different countries.
Eg. Leasing of airplanes.
International Leasing
A case where the leasing company is operating in
various countries through its branches.
International leasing is active in countries like
U.S., Japan, HongKong etc.
Regulatory framework of
leasing
Provisions under Contract Act
relating to Bailment:
two parties - lessor - bailor, lessee-
bailee.
Transfer of possession of goods
from bailor(lessor) to
bailee(lessee), for a specific
purpose.
As under bailment, on
accomplishment of purpose the
goods transferred from lessee to
 Regulatory framework of
leasing..
Liabilities of Lessee(Bailee)..
Reasonable Care :
The lessee to take reasonable care of the asset. If
he fails he is liable to for loss or damage to the
goods that he has caused.
If goods damaged despite of reasonable care,
(floods, riots etc), then the lessee is not
responsible.
Generally lease agreements make the lessee
responsible , irrespective of lessees negligence.
Regulatory framework of leasing..
Unauthorized Use not Permitted to the Lessee:
The lessee is not allowed to use the leased
asset , for any purpose other than one specified
in the lease agreement.
If he does so , then the lease agreement is
terminated, and lessor recovers the possession
of the goods.
Return of Goods :
The lessee has to return the goods :
on completion of the lease term; or
the lease agreement has been terminated by
the lessee or lessor/or automatic termination of
the agreement because of breach of conditions.
 Regulatory framework of
leasing
Not to set up an Adverse Title: must
inform the lessor of any adverse
claim.
Payment of Lease Rental:
Insure and Repair the Goods:
 Theoretical Framework of
Leasing
Liabilities of Lessor (Bailor):
Delivery of Goods:
- Ensure delivery of goods to the lessee, along
with documents for lawful use of asset. Lease
commences on delivery.
Peaceful Possession:
- Lessor must ensure quite possession of the
goods during the lease term
Fitness of Goods
To Disclose All Defects: all known defects to be
disclosed. If not then the lessor has to
compensate the losses incurred by the lessee
due to such defects.
 Theoretical Framework of
Leasing
Remedies for Breach
Remedies to the Lessor:
- Forfeiture : forfeiture of all lease rentals paid up to the date
of termination, even if it exceeds the amount of benefit
received by the lessee.
- Repossession : repossession of goods on breach of lease
through serving of a notice on lessee. For repossession of
goods physical force can be used by the lessor.
Remedies to the lessee:
may claim damages for loss resulting from the
termination. This includes increased lease rentals he has
to pay on new lease asset obtained + damages for not
allowing him to use the asset from termination date to
the date of expiry of the lease term.
 Theoretical Framework of
Leasing
Insurance of the leased Asset ;
Both lessor or lessee can obtain the insurance.
Generally obtained by the lessee, covering loss due
damage by fire, riot, faulty handling etc.
Claims Proceeds : in case of asset being fully destroyed, the
claims received , adjusted against the lessors dues. In case
of partial damage, the claim proceeds to be adjusted
against amount financed, and then for balance lease rentals
is computed.
Sub Lease by lessee : not allowed unless provided in the
lease agreement. Except for assets where sub lease is
apparent. Sub lease becomes the lease of the original
lessor as well. If Main lease is terminated then the sub lease
gets automatically terminated.
 Lease Documentation and
Agreement
Lease Approval Process:
Appraisal of the Lease proposal. Sanctioning of the
credit amount.
Letter of Offer, with stipulated time for acceptance.
Acceptance of Offer by lessee within stipulated time,
with Board Resolution for acceptance of the offer.
Documents required:
Purchase Order, Invoice, Bill of Sale from supplier,
delivery note, insurance policies, import license,
copy of shops and establishments registration
certificate, copies of Audited balance Sheet and P&L
A/c. for 3yrs, M of A and Articles of Association,
Provisional results for the first 6 months, IT
returns/Salary certificate,
 Lease Documentation and
Agreement..
All these documents to be obtained by
the lessor from the lessee.
They are called Attendant
Documents as they help in taking a
decision for the lease proposal.
Insurance Policy compulsory for the
leased asset, in the name of the lessor
account lessee. Policy should be in the
custody of the lessor.
 Lease Agreements
It specifies the legal rights and
obligations of the lessor and lessee.
Usually a Master lease is signed
containing the qualitative terms in the
main part, and the equipment details,
rentals, credit limits and payment
duration etc in attached schedules.
Additional lease facilities are finalized
under supplemental lease agreements,
with reference to the Main Master Lease
Agreement.
 Lease Agreements...
Clauses in Lease Agreement:
Nature of the lease : financial lease, operating
lease etc.
Description : of the equipment, its actual condition,
size, estimated useful life, components etc.
Delivery and Re-delivery : when and how the
equipment would be delivered to the lessee and
redelivered by him.
Lease Rentals ; procedure for payments of lease
rentals with the rates. Besides, the late payment
charges.
Repairs & Maintenance : responsibility of repairs,
insurance etc.
Title : identification and ownership of equipment.
 Tripartite Lease Agreement
Three parties - Manufacturer,
lessor(financier) and lessee.
Guarantee Agreement : in addition to
master lease agreement. Guarantor liable for the
due amount of lessee. He signs the guarantee
agreement. If Guarantor is a company then Board
Resolution for the same is a must.
Income and Address proof of Guarantor taken.
Agreement on a stamp paper.
 Tripartite Lease
Agreement...
Promissory Note:
Lessee to execute an unconditional promissory note
in favour of lessor for the full amount of lease rentals
payable, counter guaranteed by the guarantor.
Beyond three years, a fresh promissory note to be
executed.
Receipt of Goods:
In case of tripartite lease , the
manufacturer/supplier/lessor, delivers the goods
directly to the lessee, so he has to execute the receipt
for the goods.
 Tripartite lease
agreements...
Collateral Security/Hypothecation
Agreement:
Sometimes required if financial position
of the lessee is weak.
Collateral security may be a Promissory
Note by lessee , insurance policies,
shares etc.
No Pledge Deed is required.
A deed of Hypothecation may be
executed on stamp paper of appropriate
value.