What is a Hire Purchase in Finance?

Hire purchase is a common form of consumer or business credit.

A hire purchase, also known as a lease purchase, closed-end lease, lease-to-own or rent-to-own, is a business arrangement between a seller and a customer where the customer gets possession and use of the goods in return for a fixed number of specified monthly payments, but the seller retains ownership title rights until the customer has made the final payment. At that point, ownership title passes to the customer. This arrangement is often used for automobiles, durable business equipment like computers and large household appliances like refrigerators or dishwashers.

Resemblance to Installment Buying

A hire purchase resembles an installment purchase, but with the crucial difference that title to the property stays with the seller during the hire term. The customer enjoys the economic benefits of ownership but also assumes the risks of damage or loss. The seller is able to account for the hire purchase as the equivalent of a sale. Normally, title to the property passes to the customer at the end of the agreement's term, but a hire purchase also can be structured so the customer takes ownership after a final balloon payment.

Advantage in Sales

Hire purchase was invented in the 19th century as a market expansion tool that allowed customers with a cash shortage to make an expensive purchase they otherwise would have to delay or forgo altogether. Cyrus McCormick, inventor of the mechanical reaper, and Isaac Singer, one of the inventors of the sewing machine, used hire purchase to sell their expensive products, with customers making the hire payments from the earnings the machines produced.

Seller's Repo Rights

If the customer defaults on the hire purchase agreement, the seller is entitled to repossess the property. Since a hire purchase is a type of consumer or business debt, a customer's default may impair his credit rating.

Assignation

A hire purchase agreement may be held by the seller or assigned to a third party, who collects the payments and interest. Hire purchase may be easier to obtain than purchase financing for a customer having a less-than-stellar credit rating because the goods act as collateral.

Credit Rating Check

All hire purchase agreements involve a credit check on the customer. Sellers may offer customers with a good credit rating the option of an interest-free hire purchase agreement. But customers with bad credit may be rejected or required to pay a high interest rate.

References

• BusinessDictionary.com: Hire-Purchase
• Personal Budgeting 101: Hire Purchase Agreements - Pros & Cons