H P I S T: IRE Urchase and Nstallment ALE Ransactions

CHAPTER 11
HIRE PURCHASE AND

INSTALLMENT SALE
TRANSACTIONS
LEARNING OUTCOMES
After studying this unit, you will be able to–
 Understand the salient features and nature of Hire purchase
transactions.
 Journalize the Hire purchase entries both in the books of
hire purchaser and the hire vendor.
 Learn various methods of accounting for hire purchase
transactions.
 Ascertain various missing values, required while accounting
the hire purchase transactions, on the basis of given
information.
 Calculate and record the value of repossessed goods and
also to calculate the profit on re-sale of such goods.
 Understand the instalment payment system and also how it
is different from hire purchase transactions
© The Institute of Chartered Accountants of India

11.2 ACCOUNTING
Hire Purchase Accounting: Under Hire Purchase System, hire purchaser pays the
cost of purchased asset in number of instalments. The ownership of the goods is
transferred by the Hire Vendor only after payment of outstanding balance.
Installment System: Under Installment System also, the purchaser pays the cost
of purchased asset in number of installments. However, under installment system,
ownership of the goods is transferred by owner on the date of delivery of the
goods.
Methods of Accounting
In Hire Purchaser's books In Hire Vendor's books
Interest Interest
Cash price Sales method suspense
suspense
method method
method

HIRE PURCHASE AND INSTALLMENT SALE … 11.3
1. INTRODUCTION
With an increasing demand for better life, the consumption of goods has been on
the expanding scale. But, this has not been backed up by adequate purchasing
power, transforming it into effectual demand, i.e., actual sale at set or settled
prices. This has created the market for what is called hire purchase.
When a person wants to acquire an asset, but is not sure how to make payment
within a stipulated period of time he may pay in instalments if the vendor agrees.
This enables the purchaser to use the asset while paying for it in instalments over
an agreed period of time. This type of a business deal is known as hire purchase
transaction. Here, the customer pays the entire amount either in monthly or
quarterly or yearly instalments, while the asset remains the property of the seller
until the buyer squares up his entire liability. For the seller, the agreed instalments
include his interest on the assets given on credit to the purchaser. Therefore,
when the total amount (being paid in instalments over a period of time) is
certainly higher than the cash down price of the asset because of interest charges.
Obviously, both the parties gain in the bargain. By virtue of this, the purchaser
has the right of immediate use of the asset without making immediate payment
for the asset, by this, he gets both credit and product from the same seller. From
seller’s view point, he derives the benefits by way of increase in sales and also he
recovers his own cost of credit.
2. NATURE OF HIRE PURCHASE AGREEMENT

Under the Hire Purchase System the Hire Purchaser gets possession of the goods
at the outset and can use it, while paying for it in instalments over a specified
period of time as per the agreement. However, the ownership of the goods
remains with the Hire Vendor until the hire purchaser has paid all the instalments.
Each instalment paid by the hire purchaser is treated as hire charges for using the
asset. In case he fails to pay any of the instalments (even the last one) the hire
vendor has the right to take back his goods without compensating the buyer, i.e.,
the hire vendor is not going to pay back a part or whole of the amount received
through instalments till the date of default from the buyer.

11.4 ACCOUNTING
3. SPECIAL FEATURES OF HIRE PURCHASE

AGREEMENT
1. Possession: The hire vendor transfers only possession of the goods to the
hire purchaser immediately after the contract for hire purchase is made.
2. Installments: The goods are delivered by the hire vendor on the condition
that a hire purchaser should pay the amount in periodical instalments.
3. Down Payment: The hire purchaser generally makes a down payment, i.e.,
an amount on signing the agreement.
4. Constituents of Hire purchase instalments: Each instalment consists of
two elements- finance charge (interest on unpaid amount) and capital
payment.
5. Ownership: The property in goods is to pass to the hire purchaser on the
payment of the last instalment and exercising the option conferred upon
him under the agreement.
6. Repossession: In case of default in respect of payment of even the last
instalment, the hire vendor has the right to take the goods back without
making any compensation.
4. TERMS USED IN HIRE PURCHASE

AGREEMENTS
1. Hire Vendor: Hire vendor is a person who delivers the goods along with its
possession to the hire purchaser under a hire purchase agreement.
2. Hire Purchaser: Hire purchaser is a person who obtains the goods and
rights to use the same from hire vendor under a hire purchase agreement.
3. Cash Price: Cash price is the amount to be paid by the buyer on outright
purchase in cash.
4. Down Payment: Down payment is the initial payment made to the hire
vendor by the hire purchaser at the time of entering into a hire purchase
agreement.
5. Hire Purchase Instalment: Hire purchase instalment is the amount which
the hire purchaser has to pay after a regular interval upto certain period as
specified in the agreement to obtain the ownership of the asset purchased

(on payment of the last installment) under a hire purchase agreement. It

comprises of principal amount and the interest on the unpaid amount.
6. Hire purchase price: It means the total sum payable by the hire purchaser
to obtain the ownership of the asset purchased under hire purchase
agreement. It comprises of cash price and interest on outstanding balances.
5. ASCERTAINMENT OF TOTAL CASH PRICE

We know that the basis for accounting in the books of the hire purchaser is the
total cash price. Sometimes, the total cash price may not be given. For the
purpose of ascertaining the total cash price, we can use any of the following
methods according to the need.
Calculation of total cash price
Without using annuity table With the help of annuity table
5.1. Calculation of Total Cash Price without using Annuity Table

In this method, the interest included in the last instalment is to be calculated first
with the help of the appropriate formula (explained below).
For example in a hire purchase transaction, apart from down payment, four other
instalments are payable. The interest will be calculated first on the 4th instalment,
then on the 3rd instalment, then on the 2nd instalment and lastly on the 1st
instalment. Interest on down payment will be nil.
In this connection, it should be noted that the amount of interest will go on
increasing from the 4th instalment to the 3rd instalment, from the 3rd instalment
to the 2nd instalment and from the 2nd instalment to the 1st instalment.
We know that interest is to be calculated on the outstanding balance of cash
price.
In this case, we will have to calculate the interest with the help of the total
amount due on hire purchase price since the cash price is not known. For the
purpose of calculating the interest, the following steps should be followed:

11.6 ACCOUNTING
Step 1 : Calculate the ratio between interest and the amount due with the help
of the following formula:
Rate of interest
Ratio of interest andamount due =
100 + Rate of interest
Step 2: Calculate the interest included in the last instalment by applying the
following formula:
Interest = Total amount due at the time of instalment x Ratio of
interest and amount due (as calculated in step 1)
Step 3: Subtract the interest (as calculated in step 2) from this instalment to
get the amount of outstanding cash price at the time of last instalment.
Step 4: Add the cash price calculated in Step 3 to the amount of instalment
due at the end of the third year.
Step 5: Calculate the interest on the entire sum (cash price included in the 4th
instalment + amount of 3rd instalment). Deduct this interest from the
total amount due at the end of 3rd year to get the outstanding cash
price at the time of 3rd instalment.
Step 6: Add the cash price calculated in step 5 to the amount of instalment
due at the end of 2nd year.
Step 7: Calculate the interest on the entire sum so obtained in Step 6. Deduct
this interest from the total amount due at the end of 2nd year to get
the outstanding cash price at the time of 2nd instalment.
Step 8: Add the cash price calculated in Step 7 to the amount of instalment
due at the end of 1st year.
Step 9: Calculate the interest on the entire sum so obtained in Step 8. Deduct
this interest from the total amount due at the end of 1st year to get the
outstanding cash price at the time of 1st instalment.
Step 10: Add the cash price calculated in Step 9 to the amount of down
payment, if any. The sum so obtained will be the total cash price.
Illustration 1
Asha purchased a truck on hire purchase system. As per terms he is required to pay
` 70,000 down, ` 53,000 at the end of first year, ` 49,000 at the end of second year
and ` 55,000 at the end of third year. Interest is charged @ 10% p.a.

You are required to calculate the total cash price of the truck and the interest paid
with each instalment.
Solution
Rate of interest 10
(1) Ratio of interest and amount due = = = 1
100 + Rate of interest 110 11
(2) Calculation of Interest and Cash Price
No. of Amount due at Interest Cash price

instalments the time of
instalment
[1] [2] [3] [4]
3rd 55,000 1/11 of ` 55,000 =` 5,000 50,000
2 nd
*99,000 1/11 of ` 99,000 = ` 9,000 90,000
1st **1,43,000 1/11of ` 1,43,000 = ` 13,000 1,30,000
Total cash price = ` 1,30,000+ 70,000 (down payment) =` 2,00,000.
*` 50,000 + 2nd instalment of ` 49,000 = ` 99,000.
** ` 90,000 + 1st instalment of ` 53,000 = ` 1,43,000.
Illustration 2
A acquired on 1st January, 20X1 a machine under a Hire-Purchase agreement
which provides for 5 half-yearly instalments of ` 6,000 each, the first instalment
being due on 1st July, 20X1. Assuming that the applicable rate of interest is 10 per
cent per annum, calculate the cash value of the machine. All working should form
part of the answer.
Solution
Statement showing cash value of the machine acquired on hire-purchase basis
Instalment Interest @ 5% half Principal Amount

Amount yearly (10% p.a.) (in each
= 5/105 = 1/21 instalment)
(in each
instalment)
` ` `
5th Instalment 6,000 286 5,714
Less: Interest (286)

11.8 ACCOUNTING
5,714
Add: 4th Instalment 6,000
11,714 558 5,442
Less: Interest (558) (6,000 – 558)
11,156
Add: 3rd instalment 6,000
17,156 817 5,183
Less: Interest (817) (6,000 – 817)
16,339
Add: 2nd instalment 6,000
22,339 1,063 4,937
Less: Interest (1,063) (6,000 – 1,063)
21,276
Add: 1st instalment 6,000
27,276 1,299 4,701
Less: Interest (1,299) (6,000 –1,299)
25,977 4,023 25,977
The cash purchase price of machinery is ` 25,977.
5.2 Calculation of Total Cash Price with the help of Annuity Table
Cash price = Down payment + Present value of instalments
Present value of instalments is calculated as follows:

(a) If present value of an annuity of ` 1 for a given period, at given rate of
interest, is given Present value of instalments = Annual instalments x
Present value of an annuity of ` 1 for a given period at given rate of interest
(1 + r )n − 1
= Annual instalment x n
r (1 + r )
(b) If annuity to recover ` 1 during a given period at given rate of interest is

given
n
r (1 + r )
= Annual instalment x
(1 + r )n − 1

Illustration 3
On 1st April, 20X1 a manufacturing company buys on Hire-purchase system a
machinery for ` 90,000, payable by three equal annual instalments combining
principal and interest, the rate of interest was 5% per annum. Calculate the amount
of cash price and interest. Assume that the present value of an annuity of one rupee
for three years at 5% interest is ` 2.723.
Solution
Calculation of Cash Price – The present value of an annuity of Re. 1 paid for 3
year @ 5% = ` 2.723. Hence, the present value of ` 30,000 for 3 years = 2.723 x
30,000 = ` 81,690.
Thus, Cash Price will be computed as ` 81,690.
Cash price may also be calculated using the annuity formula discussed above:
(1 + r )n − 1
Cash price = Annual instalment x n
r (1 + r )
= 30,000 x [(1 + 0.05)3 – 1]/ 0.05 (1 + 0.05)3

= ` 81697.
Note- The difference in cash price of ` 7 is on account of approximation.
6. ASCERTAINMENT OF INTEREST
We know that the hire purchase price consists of two elements: (i) cash price; and
(ii) interest. Cash price is an expenditure incurred for the acquisition of an asset
towards payment of capital (principal) amount and (ii) interest is a expense in the
nature of revenue for delay in making the full payment. Ascertainment of any of
these two gives the answer for the other, e.g., if we ascertain the total amount of
interest, it becomes very simple to ascertain the cash price just by deducting the
amount of interest from the hire purchase price.
Interest is charged on the amount outstanding. Therefore, if the hire purchaser
makes a down payment on signing the contract, it will not include any amount of
interest. It should be noted that though the instalments of a hire purchase
agreement may be equal, the interest element in each instalment is not the same.
At the time of calculating interest, students may face the following two situations:

11.10 ACCOUNTING
(a) When the cash price, rate of interest and the amount of instalments are
given; and
(b) When the cash price and the amount of instalments are given, but the rate
of interest is not given.
Now, let us consider the above two situations.
6.1 When the cash price, rate of interest and the amount of
instalments are given
In this situation, the total amount of interest is to be ascertained first. It is the
difference between the hire purchase price (down payment + total instalments)
and the cash price. To calculate the amount of interest involved in each
instalment the following steps are followed:
Step 1 : Deduct down payment from the cash price. Calculate the interest at the
given rate on the remaining balance. This represents the amount of
interest included in the first instalment.
Step 2 : Deduct the interest of Step 1 from the amount of first instalment. The
resultant figure is the cash price included in the first instalment.
Step 3 : Deduct the cash price of the 1st instalment (Step 2) from the balance
due after down payment. It represents the amount outstanding after
the 1st instalment is paid.
Step 4 : Calculate the interest at the given rate on the balance outstanding
after the 1st instalment. Deduct this interest from the amount of the 2nd
instalment to get the cash price included in the 2nd instalment.
Step 5: Deduct the cash price of the 2nd instalment (Step 4) from the balance
due after the 1st instalment. It represents the amount outstanding after
the 2nd instalment is paid.
Repeat the above steps till the last instalment is paid.
Illustration 4
Om Ltd. purchased a machine on hire purchase basis from Kumar Machinery Co.
Ltd. on the following terms:
(a) Cash price ` 80,000
(b) Down payment at the time of signing the agreement on 1.1.20X1 ` 21,622.

(c) 5 annual instalments of ` 15,400, the first to commence at the end of twelve
months from the date of down payment.
(d) Rate of interest is 10% p.a.
You are required to calculate the total interest and interest included in cash
instalment.
Solution
Calculation of interest
Total Interest in each Cash price in

(`) instalment (1) each
instalment (2)
Cash Price 80,000
Less: Down Payment (21,622) Nil ` 21,622
Balance due after down 58,378
payment
Interest/Cash Price of 1st - ` 58,378 ` 15,400 –
instalment x10/100 = ` 5,838= ` 9,562
` 5,838
Less: Cash price of 1st instalment (9,562)
Balance due after 1st 48,816
instalment
Interest/cash price of 2nd - ` 48,816 x ` 15,400 -
instalment 10/100 = ` 4,882=
` 4,882 ` 10,518
Less: Cash price of 2nd (10,518)
instalment
Balance due after 2nd 38,298
instalment
Interest/Cash price of 3rd - ` 38,298 x ` 15,400 -
instalment 10/100 = ` 3,830=
` 3,830 ` 11,570
Less: Cash price of 3rd instalment (11,570)
Balance due after 3 rd
26,728
instalment
Interest/Cash price of 4th - ` 26,728 ` 15,400 -

11.12 ACCOUNTING
instalment x10/100 = ` 2,672 =

` 2,672 ` 12,728
Less: Cash price of 4th instalment (12,728)
Balance due after 4 th
14,000
instalment
Interest/Cash price of 5th - `14,000 ` 15400–
instalment x10/100 = ` 1,400= 14,000
` 1,400
Less: Cash price of 5th instalment (14,000)
Total Nil ` 18,622 ` 80,000
Total interest can also be calculated as follow:
(Down payment + instalments) – Cash Price = ` [21,622 +(15400 x 5)] – ` 80,000 =
` 18,622
6.2 When the cash price and the amount of instalments are given,
but the rate of interest is not given
When the rate of interest is not given, but the cash price and the amount of
installments are given, we have to find interest rate implicit in the transaction by
bifurcating the installments between reduction in liability and finance charges
(interest).
Internal rate of return (IRR) is the discount rate that equates the present value of
the expected net cash outflows (amount of down-payment and installments) with
the cash price. When the net cash flows are not uniform over the life of the
investment, the determination of the discount rate can involve trial and error and
interpolation between interest rates.
In case of hire purchase, Internal Rate of Return Method (IRR) • method
considers the time value of money, the cash price, and all cash outflows (amount
of down-payment and installments) relating to the purchase of the asset on hire
purchase basis. IRR method does not use the desired rate of return but estimates
the discount rate that makes the present value of subsequent net cash outflows
equal to the cash price.
•
For detailed understanding of IRR, students are advised to refer Financial Management
Study Material.

Illustration 5
Happy Valley Florists Ltd. acquired a delivery van on hire purchase on 01.04.20X1
from Ganesh Enterprises. The terms were as follows:
Particulars Amount (`)

Hire Purchase Price 180,000
Down Payment 30,000
1st installment payable after 1 year 50,000
2nd installment after 2 years 50,000
rd
3 installment after 3 years 30,000
4th installment after 4 years 20,000
Cash price of van ` 150,000 You are required to calculate Total Interest and Interest
included in each instalment.
Solution:
Calculation of total Interest and Interest included in each installment
Hire Purchase Price (HPP) = Down Payment + instalments
= 30,000 + 50,000 + 50,000 + 30,000 + 20,000 = 1,80,000
Total Interest = 1,80,000 – 1,50,000 = 30,000
Computation of IRR (considering two guessed rates of 6% and 12%)
Year Cash Flow DF @6% PV DF @12% PV

0 30,000 1.00 30,000 1.00 30,000
1 50,000 0.94 47,000 0.89 44,500
2 50,000 0.89 44,500 0.80 40,000
3 30,000 0.84 25,200 0.71 21,300
4 20,000 0.79 15,800 0.64 12,800
NPV 1,62,500 NPV 1,48,600
Interest rate implicit on lease is computed below by interpolation:
1,62,500 - 1,50,000
Interest rate implicit on lease = 6% + × ( 12 - 6 ) = 11.39%
1,62,500 - 1, 48,600

11.14 ACCOUNTING
Thus, repayment schedule and interest would be as under:
Installment Principal Interest Gross Installment Principle

no. at included in amount at end
beginning each
installment
Cash down 1,50,000 1,50,000 30,000 1,20,000
1 1,20,000 13,668 1,33,668 50,000 83,668
2 83,668 9,530 93,198 50,000 43,198
3 43,198 4,920 48,118 30,000 18,118
4 18,118 2,064 20,182 20,000 182*
30,182*
* the difference is on account of approximations
7. ACCOUNTING FOR HIRE PURCHASE

TRANSACTION
7.1 In the Books of Hire Purchaser
There are following two methods of recording the hire purchase transactions in
the books of the hire-purchaser:
1. Cash price method
2. Interest suspense method
It is necessary to disclose assets taken on hire purchase basis by classifying

it as “Asset on Hire Purchase”. Accordingly, amount due to the hire vendor
should also be shown in his books as a liability—“Hire Purchase Creditors”
with additional such classifications of amount of hire purchase instalment
due and amount of hire purchase instalment not yet due.
Cash price method

Under this method, the full cash price of the asset is debited to the Asset Account
and credited to the Hire Vendor Account, therefore, it is also called Full Cash Price
Method. At the time of payment of instalment, Interest Account is debited and
Hire Vendor Account is credited (with the interest on outstanding balance). When
instalment is paid, the Hire Vendor Account is debited and Bank Account is
credited. At the time of preparation of Final Accounts, interest is transferred to

Profit and Loss Account and asset is shown in the Balance Sheet at cost less
depreciation. The balance due to hire vendor is shown in the Balance Sheet as a
liability
Accounting
To have proper accounting record, one should know: (1) Date of purchase of the
asset; (2) Cash price of the asset; (3) Hire purchase price of the asset; (4) The
amount of down payment; (5) Number and amount of each instalment; (6) Rate of
interest; (7) Method and rate of depreciation; (8) Date of payment of every
instalment; and (9) Date of closing the books of account.
Journal Entries
1. At the time of entering into the agreement

Asset Account Dr. [Full cash price]
To Hire Vendor Account
2. When down payment is made
Hire Vendor Account Dr. [Down payment]
To Cash/Bank Account
3. When an instalment becomes due
Interest Account Dr. [Interest on outstanding
To Hire Vendor Account balance]
4. When an instalment is paid
Hire Vendor Account Dr. [Amount of instalment]
To Bank Account
5. When depreciation is charged on the asset
Depreciation Account Dr. [Calculated on cash price]
To Asset Account
6. For closing interest and depreciation
account
Profit and Loss Account Dr.
To Interest Account
To Depreciation Account

11.16 ACCOUNTING
Disclosure in the balance sheet

Assets
Fixed Assets:
Asset (at cash price) xxxxxxx.xx
Less: Depreciation xxxx.xx
xxxxxxx.xx
Liabilities
Hire Purchase Creditors:
Balance in hire vendor's A/c xxxxx.xx
Interest accrued not yet due xxxxx.xx
Illustration 6
On January 1, 20X1 HP M/s acquired a Pick-up Van on hire purchase from FM M/s.
The terms of the contract were as follows:
(a) The cash price of the van was ` 1,00,000.
(b) ` 40,000 were to be paid on signing of the contract.
(c) The balance was to be paid in annual instalments of ` 20,000 plus interest.
(d) Interest chargeable on the outstanding balance was 6% p.a.
(e) Depreciation at 10% p.a. is to be written-off using the straight-line method.
You are required to:
(a) Give Journal Entries and show the relevant accounts in the books of HP M/s
from January 1, 20X1 to December 31, 20X3; and
(b) Show the relevant items in the Balance Sheet of the purchaser as on
December 31, 20X1 to 20X3.
Solution
In the books of HP M/s
Journal Entries
Date Particulars Dr. Cr.
` `
20X1 Pick-up Van A/c Dr. 1,00,000

Jan. 1 To FM M/s A/c 1,00,000

(Being the purchase of a pick-up van on
hire purchase from FM M/s)
“ FM M/s A/c Dr. 40,000
To Bank A/c 40,000
(Being the amount paid on signing the
H.P. contract)
Dec. 31 Interest A/c Dr. 3,600
To FM M/s A/c 3,600
(Being the interest payable @ 6% on
` 60,000
“ FM M/s A/c (` 20,000+` 3,600) Dr. 23,600
To Bank A/c 23,600
(Being the payment of 1st instalment along
with interest)
“ Depreciation A/c Dr. 10,000
To Pick-up Van A/c 10,000
(Being the depreciation charged @ 10%
p.a. on ` 1,00,000)
“ Profit & Loss A/c Dr. 13,600
To Depreciation A/c 10,000
To Interest A/c 3,600
(Being the depreciation and interest
transferred to Profit and Loss Account)
20X2 Interest A/c Dr. 2,400
Dec. 31 To FM M/s A/c 2,400
(Being the interest payable @ 6% on `
40,000)
FM M/s A/c (` 20,000 + ` 2,400) Dr. 22,400
To Bank A/c 22,400
(Being the payment of 2nd instalment
along with interest)
Depreciation A/c Dr. 10,000
p.a.)

11.18 ACCOUNTING
Profit & Loss A/c Dr. 12,400

(Being the depreciation and interest
charged to Profit and Loss Account)
20X3 Interest A/c Dr. 1,200
Dec. 31 To FM M/s A/c 1,200
(Being the interest payable @ 6% on `
20,000)
FM M/s A/c (` 20,000 + ` 1,200) Dr. 21,200
To Bank A/c 21,200
(Being the payment of final instalment
along with interest)
p.a. on ` 1,00,000)
(Being the interest and depreciation
charged to Profit and Loss Account)
Ledgers in the books of HP M/s
Pick-up Van Account
Date Particulars ` Date Particulars `
1.1.20X1 To FM M/s A/c 1,00,000 31.12.20X1 By Depreciation A/c 10,000
31.12.20X1 By Balance c/d 90,000
1,00,000 1,00,000
1.1.20X2 To Balance b/d 90,000 31.12.20X2 By Depreciation A/c 10,000
31.12.20X2 By Balance c/d 80,000
90,000 90,000
1.1.20X3 To Balance b/d 80,000 31.12.20X3 By Depreciation A/c 10,000
31.12.20X3 By Balance c/d 70,000
80,000 80,000

FM M/s Account
1.1.20X1 To Bank A/c 40,000 1.1.20X1 By Pick-up Van A/c 1,00,000
31.12.20X1 To Bank A/c 23,600 31.12.20X1 By Interest c/d 3,600
31.12.20X1 To Balance c/d 40,000
1,03,600 1,03,600
31.12.20X2 To Bank A/c 22,400 1.1.20X2 By Balance b/d 40,000
31.12.20X2 To Balance c/d 20,000 31.12.20X2 By Interest A/c 2,400
42,400 42,400
31.12.20X3 By Interest A/c 1,200
21,200 21,200
Depreciation Account

31.12.20X1 To Pick-up Van A/c 10,000 31.12.20X1 By Profit & Loss A/c 10,000
Interest Account

31.12.20X1 To FM M/s A/c 3,600 31.12.20X1 By Profit & Loss A/c 3,600
Balance Sheet of HP M/s as at 31st December, 20X1
Liabilities ` Assets `
FM M/s 40,000 Pick-up Van 90,000

11.20 ACCOUNTING
Pick-up Van 70,000
Interest suspense method

Under this method, at the time of transfer of possession of asset, the total interest
unaccrued is transferred to interest suspense account. At later years, as and when
interest becomes due, interest account is debited and interest suspense account
is credited.
Journal Entries
1. When the asset is acquired on hire purchase

Asset Account Dr. [Full cash price]
2. For total interest payment
H.P. Interest Suspense Account Dr. [Total interest]
3. When down payment is made
Hire Vendor Account Dr.
To Bank Account
4. For Interest of the relevant period
Interest Account Dr. [Interest of the relevant
To H.P. Interest Suspense Account period]
5. When an instalment is paid
Hire Vendor Account Dr.
To Bank Account
6. When depreciation is charged on the asset
Depreciation Account Dr. [Calculated on cash price]
To Asset Account
7. For closing interest and depreciation account
Profit and Loss Account Dr.
To Interest Account
To Depreciation Account

Illustration 7
In illustration 6 assume that the hire purchaser adopted the interest suspense
method for recording his hire purchase transactions. On this basis, prepare H.P.
Interest Suspense Account, Interest Account and FM M/s Accounts and Balance
Sheets in the books of hire purchaser.
Solution
H.P. Interest Suspense Account

1.1.20X1 To FM M/s A/c 7,200 31.12.20X1 By Interest A/c 3,600
(W.N.)
31.12.20X1 By Balance c/d 3,600
7,200 7,200
1.1.20X2 To Balance b/d 3,600 31.12.20X2 By Interest A/c 2,400
31.12.20X2 By Balance c/d 1,200
3,600 3,600
1.1.20X3 To Balance b/d 1,200 31.12.20X3 By Interest A/c 1,200
Interest Account

31.12.20X1 To H.P. Interest 3,600 31.12.20X1 By Profit & Loss 3,600
Suspense A/c A/c
Suspense a/c A/c
Suspense A/c A/c
FM M/s Account

1.1.20X1 To Bank A/c 40,000 1.1.20X1 By Pick-up Van 1,00,000
A/c
31.12.20X1 To Bank A/c 23,600 1.1.20X1 By H.P. Interest 7,200
Suspense A/c
31.12.20X1 To Balance c/d 43,600

11.22 ACCOUNTING
1,07,200 1,07,200
31.12.20X2 To Balance c/d 21,200
43,600 43,600
FM M/s 43,600 Pick-up Van 1,00,000
Less: H.P. Interest (3,600) 40,000 Less: (10,000) 90,000
Suspense Depreciation
Less: H.P. Interest Less: (10,000) 80,000
Suspense (1,200) 20,000 Depreciation
Pick-up Van 80,000
Less: Depreciation (10,000) 70,000
Working Note:
Total Interest = ` 3,600 + ` 2,400 + ` 1,200 = ` 7,200.
7.2 In the books of the Hire Vendor
There are two methods of recording hire purchase transactions in the books of
the hire vendor. The selection of the method is based on the type and value of
goods sold, volume of transactions, the length of the period of purchase, etc.
These two methods are as follows:

Methods of recording hire purchase

transactions
Interest Suspense
Sales Method
Method
Sales Method
A business that sells relatively large items on hire purchase may adopt this
method. Under this method, hire purchase sale is treated as a credit sale. The only
exception is that the vendor agrees to accept payments in instalments and for
that he charges interest. Generally, a special Sales Day Book is maintained for
recording all sales under hire purchase agreement. The amount due from the hire
purchaser at the end of the year is shown in the Balance sheet on the assets side
as Hire Purchase Debtors.
Journal Entries
1. When goods are sold and delivered under hire

purchase
Hire Purchaser Account Dr. [Full cash price]
To H.P. Sales Account
2. When the down payment is received
Bank Account Dr.
To Hire Purchaser Account
3. When an instalment becomes due
Hire Purchaser Account Dr.
To Interest Account
4. When the amount of instalment is received
Bank Account Dr.
5. For closing interest Account
Interest Account Dr.
To Profit and Loss Account

11.24 ACCOUNTING
6. For closing Hire Purchase Sales Account

H.P. Sales Account Dr.
To Trading Account
It is worth noting that

(i) The entire profit on sale under hire purchase agreement is credited to
the Profit and Loss account of the year in which the sale has taken
place; and
(ii) Interest pertaining to each accounting period is credited to the Profit
and Loss Account of the respective year.
Interest Suspense Method
This method is almost similar to the sales method, except the accounting for
interest. Under this method, the hire purchaser is debited with full cash price and
interest (total) included in the hire selling price. Credit is given to the H.P. Sales
Account and Interest Suspense Account. When the instalment is received, the
Bank Account is debited and the Hire Purchaser Account is credited. At the same
time an appropriate amount of interest (i.e., interest for the relevant accounting
period) is removed from the Interest Suspense Account and credited to the
Interest Account. At the time of preparation of Final Accounts, interest is
transferred to the credit of the Profit and Loss Account. The balance of the
Interest Suspense Account is shown in the Balance Sheet as a deduction from Hire
Purchase Debtors.
Journal Entries
1. When goods are sold and delivered under

hire purchase
Hire Purchaser Account Dr. [Full cash price + total
interest]
To H.P. Sales Account [Full cash price]
To Interest Suspense Account [Total Interest]
2. When down payment/instalment is received
Bank Account Dr.

3. For interest of the relevant accounting

period
Interest Suspense Account Dr.
To Interest Account
4. For closing interest Account
Interest Account Dr.
To Profit and Loss Account
5. For closing Hire Purchase Sales Account
H.P. Sales Account Dr.
To Trading Account
The disclosure in balance sheet of the respective parties will be:
Balance Sheet of Hire Purchaser Balance Sheet of Vendor
Assets Assets
Fixed assets: Current assets:
Asset on Hire purchase Hire purchase debtors
Less: Depreciation Less: Balance in Interest suspense A/c
Liabilities Liabilities
Amount payable to Vendor
Less: Balance in Interest Suspense A/c
8. REPOSSESSION
In a hire purchase agreement, the hire purchaser has to pay up to the last
instalment to obtain the ownership of goods. If the hire purchaser fails to pay any
of the instalments, the hire vendor takes the asset back in its actual form without
any refund of the earlier payments to the hire purchaser. The amounts received
from the hire purchaser through down payment and instalments are treated as
the hire charges by the hire vendor. This act of recovery of possession of the asset
is termed as repossession.
Repossessed assets are resold to any other customer after repairing or
reconditioning (if necessary). Accounting figures relating to repossessed assets
are segregated from the normal hire purchase entries. Repossessions are then
accounted for in a separate “Goods Repossessed Account”.

11.26 ACCOUNTING
So far as the repossession of assets are concerned, the hire vendor can take back
the whole of the asset or a part thereof depending on the agreement between
the parties. The former is called “Complete Repossession” and the latter is called
“Partial Repossession”.
Repossession
Complete Repossession Partial Repossession
8.1 Complete Repossession

The hire vendor closes Hire Purchaser’s Account by transferring balance of Hire
Purchaser Account to Goods Repossessed Account.
The hire purchaser closes the Hire Vendor’s Account by transferring the balance
of Hire Vendor Account to Hire Purchase Asset and then finding the profit and
loss on repossession in Asset Account.
After repossession, the vendor may incur expenses on repossessed stock and may
sell the same in due course of time.
Particulars Books of hire purchaser Books of hire vendor

Purchase/Sales Asset A/c …Dr. Hire Purchaser A/c …Dr.
To Hire Vendor A/c To Sales A/c
Installment Hire Vendor A/c …Dr. Cash A/c …Dr.
To Cash A/c To Hire Purchaser A/c
Interest Interest A/c …Dr. Hire Purchaser A/c …Dr.
To Hire Vendor To Interest A/c
Repossession Hire Vendor A/c …Dr. Goods Repossessed A/c …Dr.
To Asset A/c To Hire Purchaser
8.2 Partial Repossession

In case of a partial repossession, only a part of the asset is taken back by the hire
vendor and other part is left with the hire purchaser. The Journal Entries are as
usual up to the date of default (excepting entry for payment) in the books of both

the parties. As a portion of the asset is still left with the hire purchaser, neither
party closes the account of the other in their respective books.
Assets are repossessed at a mutually agreed value (based on agreed rate of
depreciation which is an enhanced rate). The hire vendor debits the Goods
Repossessed Account and credit the Hire Purchaser Account with the value as
agreed upon on the repossession. Similarly, the hire purchaser debits the Hire
Vendor Account and credits the Assets Account with the same amount. If the
repossessed value is less than the book value of the asset which is repossessed,
the difference is charged to the Profit and Loss Account of the hire purchaser as
‘loss on surrender’.
For the remaining portion of the asset lying with the hire purchaser, the (Hire
Purchaser) applies the usual rate of depreciation and shows the Asset Account at
its usual written-down value.
MISCELLANEOUS ILLUSTRATIONS
Illustration 8
X Ltd. purchased 3 milk vans from Super Motors costing ` 75,000 each on hire
purchase system. Payment was to be made: ` 45,000 down and the remainder in 3
equal instalments together with interest @ 9%. X Ltd. writes off depreciation @ 20%
on the diminishing balance. It paid the instalment at the end of the 1st year but
could not pay the next. Super Motor agreed to leave one milk van with the
purchaser, adjusting the value of the other two milk vans against the amount due.
The milk vans were valued on the basis of 30% depreciation annually on written
down value basis. X Ltd. settled the seller’s dues after three months.
You are required to give necessary journal entries and the relevant accounts in the
books of X Ltd.
Solution
In the Books of X Ltd.
Journal Entries
Dr. (` ) Cr. (` )
I Year
Milk Vans purchased:
Milk Vans A/c Dr. 2,25,000
To Vendor A/c 2,25,000

11.28 ACCOUNTING
On down payment:
Vendor A/c Dr. 45,000
To Bank 45,000
I Year end
Interest A/c (` 1,80,000 @ 9%) Dr. 16,200
To Vendor A/c 16,200
To Bank A/c (60,000 + 16,200) 76,200
Depreciation @ 20%
To Milk Vans A/c 45,000
To Depreciation 45,000
To interest A/c 16,200
II Year end
Depreciation @ 20%
Interest A/c Dr. 10,800
(1,20,000 @ 9%)
To Vendor A/c 10,800
For Loss in Repossession:
Super Motors A/c (1,50,000 – 45,000 – Dr. 73,500
31,500) Dr. 22,500
Profit/Loss A/c (b.f.)
To Milk Vans A/c [(2,25,000 – 45,000 96,000
– 36,000) x 2/3]
IIIrd Year Depreciation
Depreciation A/c (48,000 x 20%) Dr. 9,600
Settlement of A/cs
To Bank 57,300

Milk Vans Account
Year ` Year `
1 To Super Motors 2,25,000 1 end By Depreciation A/c 45,000
A/c
” By Balance c/d 1,80,000
2,25,000 2,25,000
2 To Balance b/d 1,80,000 2 end By Depreciation 36,000
By Super Motors
(value of 2 vans after
depreciation for 2 73,500
years @ 30%)
By P & L A/c
(balancing figure) 22,500
By Balance c/d (one
van less depre-
ciation for 2 years) @ 48,000
20%
1,80,000 1,80,000
Super Motors Account
Year ` Year `
1 To Bank A/c 45,000 1 By Milk Vans A/c 2,25,000
To Bank A/c 76,200 By Interest @ 9% on
` 1,80,000 16,200
To Balance c/d 1,20,000
2,41,200 2,41,200
2 To Milk Van A/c 73,500 2 By Balance b/d 1,20,000
To Balance c/d 57,300 By Interest A/c 10,800
1,30,800 1,30,800
3 To Bank A/c 57,300 3 By Balance b/d 57,300
Illustration 9
A firm acquired two tractors under hire purchase agreements, details of which were
as follows:

11.30 ACCOUNTING
Date of Purchase Tractor A Tractor B

1st April, 1st Oct.,
20X1(`) 20X1(`)
Cash price 14,000 19,000
Both agreements provided for payment to be made in twenty-four monthly

instalments (of ` 600 each for Tractor A and ` 800 each for Tractor B), commencing
on the last day of the month following purchase, all instalments being paid on due
dates.
On 30th June, 20X2, Tractor B was completely destroyed by fire. In full settlement,
on 10th July, 20X2 an insurance company paid ` 15,000 under a comprehensive
policy. Any balance on the hire purchase company’s account in respect of these
transactions was to be written off.
The firm prepared accounts annually to 31st December and provided depreciation
on tractors on a straight-line basis at a rate of 20 per cent per annum rounded off
to nearest ten rupees, apportioned as from the date of purchase and up to the date
of disposal.
You are required to record these transactions in the following accounts, carrying
down the balances on 31st December, 20X1 and 31st December, 20X2:
(a) Tractors on hire purchase.
(b) Provision for depreciation of tractors.
(c) Disposal of tractors.
Solution
Hire Purchase accounts in the buyer’s books
(a) Tractors on Hire Purchase Account
20X1 ` 20X1 `
April To HP Co. - Cash Dec. 31 By Balance c/d
1 price
Tractor A 14,000 Tractor A 14,000
Oct. 1 ” HP Co. - Cash Tractor B 19,000 33,000
price
Tractor B 19,000
33,000 33,000

20X2 ` 20X2 `
Jan. 1 To Balance b/d June 30 By Disposal of
Tractor A/c - 19,000
Transfer
Tractor A 14,000 By Balance c/d 14,000
Tractor B 19,000 33,000 Dec. 31 33,000
33,000
20X3
Jan. 1 To Balance b/d 14,000
(b) Provision for Depreciation of Tractors Account

20X1 ` 20X1 `
Dec. 31 To Balance c/d 3,050 Dec.31 By P & L A/c:
Tractor A 2,100*
Tractor B 950** 3,050
3,050 3,050
* 14,000 x 20% x 9/12 = 2,100
** 19,000 x 20% x 3/12 = 950
20X2 ` 20X2 `
June30 To Disposal of 2,850 Jan. 1 By Balance b/d 3,050
Tractor
account—
Transfer (950 +
1,900)
Jun. 30 By P & L A/c
Dec. 31 To Balance c/d 4,900 (Depn. for Tractor 1,900
B) (19,000 x 20% x
6/12)
Dec. By P & L A/c
31
(Depn. for Tractor 2,800
A) (14,000 x 20%)
7,750 7,750
20X3 `
Jan. 1 By Balance b/d 4,900

11.32 ACCOUNTING
(c) Disposal of Tractor Account
20X2 ` 20X2 `
June30 To Tractors on hire 19,000 June By Provision for
purchase — 30 Depn. of Tractors 2,850
Tractor B A/c
July 10 By Cash : Insurance 15,000
Dec. By P & L A/c : Loss 1,150
31 (b.f.)
19,000 19,000
Illustration 10
A machinery is sold on hire purchase. The terms of payment is four annual
instalments of ` 6,000 at the end of each year commencing from the date of
agreement. Interest is charged @ 20% and is included in the annual payment of
` 6,000.
Show Machinery Account and Hire Vendor Account in the books of the purchaser
who defaulted in the payment of the third yearly payment whereupon the vendor
re-possessed the machinery. The purchaser provides depreciation on the machinery
@ 10% per annum on WVV basis. All workings should form part of your answers.
Solution
Machinery Account
` `
I Yr. To Hire Vendor A/c 15,533 I Yr. By Depreciation A/c 1,553
(W.N.)
By Balance c/d 13,980
15,533 15,533
II Yr. To Balance b/d 13,980 II Yr. By Depreciation A/c* 1,398
By Balance c/d 12,582
13,980 13,980
III Yr. To Balance b/d 12,582 III Yr. By Depreciation A/c* 1,258
By Hire Vendor 11,000

By Profit & Loss A/c 324

(Loss on Surrender)
(bal.fig.)
12,582 12,582
*Depreciation has been directly credited to the Machinery Account; it could have
been accumulated in provision for depreciation account.
Hire Vendor Account
` `
I Yr. To Bank A/c 6,000 I Yr. By Machinery A/c 15,533
18,639 18,639
II Yr. To Bank A/c 6,000 II Yr. By Balance b/d 12,639
15,167 15,167
III Yr. To Machinery A/c 11,000 III Yr. By Balance b/d 9,167
(transfer)
By Interest A/c 1,833
11,000 11,000
Note: Alternatively, total interest could have been debited to Interest Suspense
A/c and credited to Hire Vendor A/c with consequential changes.
Working Notes:
Instalment Interest Principal

Amount
4th Instalment 6,000 ` `
Interest 20 1,000 1,000 5,000
6,000 x
120
5,000
Add : 3rd Instalment 6,000
11,000
Interest 20 1,833 1,833 4,167
11,000 x
120

11.34 ACCOUNTING
9,167
Add : 2nd Instalment 6,000
15,167
Interest 20 2,528 2,528 3,472
15,167 x
120
12,639
Add : Ist Instalment 6,000
18,639
Interest 20 3,106 3,106 2,894
18,639 x
120
15,533 8,467 15,533
Illustration 11
X Transport Ltd. purchased from Delhi Motors 3 Tempos costing ` 50,000 each on
the hire purchase system on 1-1-20X1. Payment was to be made ` 30,000 down
and the remainder in 3 equal annual instalments payable on 31-12-20X1,
31-12-20X2 and 31-12-20X3 together with interest @ 9%. X Transport Ltd. write off
depreciation at the rate of 20% on the diminishing balance. It paid the instalment
due at the end of the first year i.e. 31-12-20X1 but could not pay the next on
31-12-20X2. Delhi Motors agreed to leave one Tempo with the purchaser on
1-1-20X3 adjusting the value of the other 2 Tempos against the amount due on
31-12-20X2. The Tempos were valued on the basis of 30% depreciation annually.
Show the necessary accounts in the books of X Transport Ltd. for the years 20X1,
20X2 and 20X3.
Solution
X Transport Ltd.
Tempo Account
20X1 ` 20X1 `
Jan. 1 To Delhi 1,50,000 Dec. 31 By Depreciation A/c:20%
Motors on 1,50,000 30,000
By Balance c/d 1,20,000
1,50,000 1,50,000

20X2 20X2
Jan 1. To Balance b/d 1,20,000 Dec.31. By Depreciation A/c 24,000
By Delhi Motors A/c (Value
of 2 tempos taken 49,000
away)
By Profit and Loss A/c
[(96,000 x 2/3) – 49,000] 15,000
By Balance c/d (Value
of one tempo left) 32,000
(W.N.1)
1,20,000 1,20,000
20X3 20X3
Jan. 1 To Balance b/d 32,000 Dec. 31 By Depreciation A/c 6,400
By Balance b/d 25,600
32,000 32,000
Delhi Motors Account
20X1 ` 20X1 `
Jan. 1 To Bank (Down 30,000 Jan. 1 By Tempos A/c 1,50,000
Payment)
Dec. To Bank 50,800 Dec. 31 By Interest (9% on 10,800
31 ` 1,20,000)
To Balance c/d 80,000
1,60,800 1,60,800
20X2 20X2
Jan. 1 To Tempo 49,000 Jan. 1 By Balance b/d 80,000
Dec. To Balance c/d 38,200 Dec. 31 By Interest (9%
31
on ` 80,000) 7,200
87,200 87,200
20X3 ` 20X3 `
Dec. 31 To Bank 41,638 Jan. 1 By Balance b/d 38,200

11.36 ACCOUNTING
Dec. 31 By Interest (9% on

` 38,200) 3,438
41,638 41,638
Working Notes :
(1) Value of a Tempo left with the buyer:
`
Cost 50,000
Depreciation @ 20% p.a. under WDV method for
2 years [i.e. ` 10,000 + ` 8,000] (18,000)
Value of the Tempo left with the buyer at the end of 2nd year 32,000
(2) Value of Tempos taken away by the seller:
No. of tempos Two
`
Cost ` 50,000 × 2 = 1,00,000
Depreciation @ 30%
Under WDV method for 2 years [i.e. ` 30,000 + ` 21,000 ] (51,000)
Value of tempos taken away at the end of 2nd year 49,000
9. INSTALMENT PAYMENT SYSTEM

In instalment payment system, the ownership of the goods is passed immediately
to the buyer on the signing the agreement. The accounting entries under
instalment payment system are similar to those passed under the hire-purchase
system. The scheme of entries is as under:
Books of buyer: Buyer debits asset account with full cash price, credits vendor’s
account with full instalment price and debits interest suspense account with the
difference between full cash price and full instalment price. Interest is debited to
interest suspense account (not interest account) because it includes interest in
respect of a number of years. Every year interest account is debited and interest
suspense account is credited with the interest of current year. Interest account, at
the end of the year, is closed by transferring to profit and loss account. The

balance of vendor account should be shown in the balance sheet after deducting
amount in interest suspense account. Vendor is paid the instalment due to him
and entry for the depreciation is passed in the usual way.
Books of Seller: The seller debits the purchaser with the full amount (instalment
price) payable by him and credits sales account by the full cash price and credits
interest suspense account by the difference between the total instalment price
and total cash price. Seller, like the buyer, also transfers the amount of interest
due from the interest suspense account interest account every year. Interest
account is closed by transferring to profit and loss account and the purchaser
account should be shown in the balance sheet after deducting amount in interest
suspense account. On receiving the instalment the vendor debits cash/bank
account and credits purchaser’s account.
10. DIFFERENCE OF HIRE PURCHASE

AGREEMENT AND INSTALMENT PAYMENT
AGREEMENT
A hire purchase agreement is a contract of bailment coupled with an option to
the hire purchaser to acquire the goods delivered to him under such an
agreement. By the delivery of goods to the hire purchaser, the hire vendor merely
pass with their possession, but not the ownership. The property or title to the
goods is transferred to the hire-purchaser, on his paying the last instalment of the
hire price or complying with some other conditions stipulated in the contract. At
any time before that the hire-purchaser has the option to return the goods and, if
he does so, he has only to pay the instalments of price that by then have fallen
due. The right or option to purchase is the essence of hire-purchase agreement.
In the event of a default by the buyer (hire purchaser) in the payment of any of
the instalments of hire price, the vendor can take back the goods into his
possession. This is legally permissible since the property in the goods is still with
the vendor.
On the other hand, it may have been agreed between the buyer and the seller
that the price of the goods would be payable by instalments and the property
would immediately pass to the buyer; in the event of a default of instalments, it
would not be possible for the vendor to recover back the goods. He, however,
would have the right to bring an action against the purchaser for the recovery of
the part of the price that has not been paid to him.

11.38 ACCOUNTING
Analysis of the hire purchase price: The hire purchase price is always greater than
the cash price, since it includes interest payable over and above the price of the
goods to compensate the seller for the sacrifice he has made by agreeing to
receive the price by instalments and the risk that he thereby undertakes. It is thus
made up of following elements:
(a) cash price;
(b) interest on unpaid instalments; and
(c) a charge to cover the risk involved in the buyer defaulting to pay one or
more of instalments of price or that of his returning the goods in a
damaged condition.
Interest is the charge for the facility to pay the price for the goods by instalments
after they have been delivered. The rate of interest is generally higher than that
payable in respect of an advance or a loan since it also includes a charge to cover
the risk that the hirer may fail to pay any of the instalments and, in such an event,
the goods may have to be taken back into possession in whatever condition they
are at the time. A separate charge on this account is not made as that would not
be in keeping with the fundamental character of the hire-purchase sale.
Statement showing differences between Hire Purchase and Instalment System
Basis of Distinction Hire Purchase Instalment System

1. Governing Act It is governed by Hire It is governed by the Sale
Purchase Act, 1972. of Goods Act, 1930.
2. Nature of Contract It is an agreement of It is an agreement of sale.
hiring.
3. Passing of Title The title to goods passes The title to goods passes
(ownership) on last payment. immediately as in the case
of usual sale.
4. Right to Return The hirer may return Unless seller defaults,
goods goods without further goods are not returnable.
payment except for
accrued instalments.
5. Seller’s right to The seller may take The seller can sue for
repossess possession of the goods if price if the buyer is in
hirer is in default. default. He cannot take
possession of the goods.

6. Right of Disposal Hirer cannot hire out sell, The buyer may dispose
pledge or assign entitling off the goods and give
transferee to retain good title to the bona
possession as against the fide purchaser.
hire vendor.
7. Responsibility for The hirer is not The buyer is responsible
Risk of Loss. responsible for risk of loss for risk of loss of goods
of goods if he has taken because of the ownership
reasonable precaution has transferred.
because the ownership
has not yet transferred.
8. Name of Parties The parties involved are The parties involved are
involved called Hirer and Hire called buyer and seller.
vendor.
9. Component other Component other than Component other than
than cash price. Cash Price included in Cash Price included in
installment is called Hire Installment is called
charges. Interest.
SUMMARY
• Under Hire Purchase System, hire purchaser will pay cost of purchased
asset in installments. The ownership of the goods will be transferred by the
Hire Vendor only after payment of outstanding balance.
• Under installment system, ownership of the goods is transferred by owner
on the date of delivery of goods.
• Accounting for hire purchase transactions
 Hire purchaser’s books
 Cash price Method
 Interest suspense method
 Hire vendor’s books
 Sales Method
 Interest suspense method

11.40 ACCOUNTING
TEST YOUR KNOWLEDGE

MCQs
1. The amount paid at the time of entering the hire-purchase transaction for
the goods purchased is known as
(a) Cash price
(b) Down payment
(c) First instalment
2. Total interest on hire purchased goods is the difference between
(a) Hire purchase price and cash price
(b) Hire purchase price and down payment
(c) Cash price and first instalment
3. Depreciation on hire purchased asset is claimed by
(a) Hire vendor
(b) Hire purchaser
(c) Either the hire vendor or the hire purchaser as per the agreement
between them
4. Under instalment payment system, ownership of goods
(a) is transferred at the time of payment of last instalment
(b) is not transferred
(c) is transferred at the time of signing the contract.
5. The hire purchaser records the asset at its
(a) Hire purchase price
(b) Amount paid to the vendor till date
(c) Cash price
6. The ownership of goods purchased under hire purchase is transferred only
when
(a) Down payment is paid
(b) Outstanding balance is paid in full.

(c) Cash price and first installment is paid

7. Hire purchase price is
(a) Cash price
(b) Interest on unpaid installments.
(c) Both (a) and (b).
Theoretical Questions
1. What is meant by Hire purchase transactions? What are the specific features
of hire purchase transactions?
2. What are the differences between Hire Purchase and Instalment System?
Practical Questions
Question 1
A acquired on 1st January, 20X1 a machine under a Hire-Purchase agreement
which provides for 5 half-yearly instalments of ` 6,000 each, the first instalment
being due on 1st July, 20X1. Assuming that the applicable rate of interest is 10
per cent per annum, calculate the cash value of the machine. All working should
form part of the answer.
Question 2
On 1st April, 20X1, Fastrack Motors Co. sells a truck on hire purchase basis to Teja
Transport Co. for a total hire purchase price of ` 9,00,000 payable as to ` 2,40,000
as down payment and the balance in three equal annual instalments of ` 2,20,000
each payable on 31st March 20X2, 20X3 and 20X4.
The hire vendor charges interest @ 10% per annum.
You are required to ascertain the cash price of the truck for Teja Transport Co.
Calculations may be made to the nearest rupee.
Question 3
Lucky bought 2 tractors from Happy on 1-10-20X1 on the following terms:
`
Down payment 5,00,000
1st installment at the end of first year 2,65,000
2nd installment at the end of 2nd year 2,45,000

11.42 ACCOUNTING
3rd installment at the end of 3rd year 2,75,000

Interest is charged at 10% p.a.
Lucky provides depreciation @ 20% on the diminishing balances.
On 30-9-20X4 Lucky failed to pay the 3rd installment upon which Happy
repossessed 1 tractor. Happy agreed to leave one tractor with Lucky and adjusted
the value of the tractor against the amount due. The tractor taken over was
valued on the basis of 30% depreciation annually on written down basis. The
balance amount remaining in the vendor's account after the above adjustment
was paid by Lucky after 3 months with interest @ 18% p.a.
You are required to:
(1) Calculate the cash price of the tractors and the interest paid with each
installment.
(2) Prepare Tractor Account and Happy Account in the books of Lucky
assuming that books are closed on September 30 every year. Figures may
be rounded off to the nearest rupee.
ANSWERS/ SOLUTIONS
MCQs
1. (b) 2. (a) 3. (b) 4. (c) 5. (c) 6. (b) 7. (c)
Theoretical Questions
1. Under the Hire Purchase System, the Hire Purchaser gets possession of the
goods at the outset and can use it, while paying for it in instalments over a
specified period of time as per the agreement. However, the ownership of
the goods remains with the Hire Vendor until the hire purchaser has paid all
the instalments. For specific features of such transactions, refer Para 3 of the
Chapter.
2. Hire Purchase is an agreement of hiring the asset whereas Instalment sale is
an agreement of sale. The title to goods passes on last payment in the hire
purchase transaction but the title to goods passes immediately in the case
of instalment sale. The hirer may return goods without further payment
except for accrued instalments in hire purchase transaction but in case of
instalment sale, goods are not returnable unless seller defaults. For details,
refer Para 10 of the Chapter.

Practical Questions
Answer 1
Statement showing cash value of the machine acquired on hire-purchase
basis
Instalment Interest @ 5% half Principal

Amount yearly (10% p.a.) = Amount
5/105 = 1/21) (in each
(in each instalment) instalment)
` ` `
5th Instalment 6,000 286 5,714
Less: Interest (286)
5,714
Add: 4th Instalment 6,000
11,714 558 5,442
Less: Interest (558) (6,000 – 558)
11,156
Add: 3rd instalment 6,000
17,156 817 5,183
Less: Interest (817) (6,000 – 817)
16,339
Add: 2nd instalment 6,000
22,339 1,063 4,937
Less: Interest (1,063) (6,000 – 1,063)
21,276
Add: 1st instalment 6,000
27,276 1,299 4,701
Less: Interest (1,299) (6,000 –1,299)
25,977 4,023 25,977
The cash purchase price of machinery is ` 25,977.
Answer 2
Rateof interest 10 1
Ratio of interest and amount due = = =
100+Rateof interest 110 11

11.44 ACCOUNTING
There is no interest element in the down payment as it is paid on the date of the
transaction. Instalments paid after certain period includes interest portion also.
Therefore, to ascertain cash price, interest will be calculated from last instalment
to first instalment as follows:
Calculation of Interest and Cash Price
No. of Amount due at the Interest Cumulative

instalments time of instalment Cash price
[1] [2] [3] (2-3) = [4]
3rd 2,20,000 1/11 of ` 2,20,000 =` 2,00,000
20,000
2nd 4,20,000 [W.N.1] 1/11 of ` 4,20,000= ` 3,81,818
38,182
1st 6,01,818 [W.N.2] 1/11of ` 6,01,818= ` 5,47,107
54,711
Total cash price = ` 5,47,107+ 2,40,000 (down payment) =` 7,87,107.
Working Notes:
1. ` 2,00,000+ 2nd instalment of ` 2,20,000= ` 4,20,000.
2. ` 3,81,818+ 1st instalment of ` 2,20,000= ` 6,01,818.
Answer 3
(i) Calculation of Interest and Cash Price
No. of Outstanding Amount due Outstandin Interest Outstanding
installments balance at at the time g balance at balance at
the end after of the end the
the payment installment before the beginning
of payment of
installment installment
[1] [2] [3] [4]= 2 +3 [5]= 4 x 10/110 [6]= 4-5
3 rd
- 2,75,000 2,75,000 25,000 2,50,000
2 nd
2,50,000 2,45,000 4,95,000 45,000 4,50,000
1 st
4,50,000 2,65,000 7,15,000 65,000 6,50,000
Total cash price = ` 6,50,000+ 5,00,000 (down payment) =` 11,50,000.

(ii) In the books of Lucky

Tractors Account
1.10.20X1 To Happy a/c 11,50,000 30.9.20X2 By Depreciation A/c 2,30,000
Balance c/d 9,20,000
11,50,000 11,50,000
1.10.20X2 To Balance b/d 9,20,000 30.9.20X3 By Depreciation A/c 1,84,000
Balance c/d 7,36,000
9,20,000 9,20,000
1.10.20X3 To Balance b/d 7,36,000 30.9.20X4 By Depreciation A/c 1,47,200
By Happy a/c (Value of 1
Tractor taken over after
depreciation for 3 years @30% 1,97,225
p.a.) {5,75,000-
(1,72,500+1,20,750+84,525)}
By Loss transferred to Profit 97,175
and Loss a/c on surrender (Bal.
fig.) or (2,94,400-1,97,225)
By Balance c/d
2,94,400
½ (7,36,000-
1,47,200=5,88,800)
7,36,000 7,36,000
Happy Account
1.10.X1 To Bank (down 5,00,000 1.10.X1 By Tractors a/c 11,50,000
payment) 30.9.X2 By Interest a/c 65,000
30.9.X2 To Bank (1st 2,65,000
Installment)
12,15,000 12,15,000
30.9.X3 To Bank (2nd 2,45,000 1.10.X2 By Balance b/d 4,50,000

Installment) 30.9.X3 By Interest a/c 45,000
4,95,000 4,95,000

11.46 ACCOUNTING
30.9.X4 To Tractor a/c 1,97,225 1.10.X3 By Balance b/d 2,50,000

To Balance c/d (b.f.) 77,775 30.9.X4 By Interest a/c 25,000
2,75,000 2,75,000
31.12.X4 To Bank (Amount 81,275 1.10.X4 By Balance b/d 77,775
settled after 3 31.12.X4 By Interest a/c (@
months) 18% on bal.) 3,500
(77,775x3/12x18/100)
81,275 81,275

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CHAPTER 11

HIRE PURCHASE AND

© The Institute of Chartered Accountants of India

In Hire Purchaser's books In Hire Vendor's books

© The Institute of Chartered Accountants of India

2. NATURE OF HIRE PURCHASE AGREEMENT

© The Institute of Chartered Accountants of India

3. SPECIAL FEATURES OF HIRE PURCHASE

4. TERMS USED IN HIRE PURCHASE

© The Institute of Chartered Accountants of India

(on payment of the last installment) under a hire purchase agreement. It

5. ASCERTAINMENT OF TOTAL CASH PRICE

Calculation of total cash price

Without using annuity table With the help of annuity table

5.1. Calculation of Total Cash Price without using Annuity Table

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

No. of Amount due at Interest Cash price

Instalment Interest @ 5% half Principal Amount

© The Institute of Chartered Accountants of India

Present value of instalments is calculated as follows:

(b) If annuity to recover ` 1 during a given period at given rate of interest is

© The Institute of Chartered Accountants of India

= 30,000 x [(1 + 0.05)3 – 1]/ 0.05 (1 + 0.05)3

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

Total Interest in each Cash price in

© The Institute of Chartered Accountants of India

instalment x10/100 = ` 2,672 =

© The Institute of Chartered Accountants of India

Particulars Amount (`)

Year Cash Flow DF @6% PV DF @12% PV

© The Institute of Chartered Accountants of India

Thus, repayment schedule and interest would be as under:

Installment Principal Interest Gross Installment Principle

7. ACCOUNTING FOR HIRE PURCHASE

It is necessary to disclose assets taken on hire purchase basis by classifying

Cash price method

© The Institute of Chartered Accountants of India

1. At the time of entering into the agreement

© The Institute of Chartered Accountants of India

Disclosure in the balance sheet

© The Institute of Chartered Accountants of India

Jan. 1 To FM M/s A/c 1,00,000

© The Institute of Chartered Accountants of India

Profit & Loss A/c Dr. 12,400

© The Institute of Chartered Accountants of India

Date Particulars ` Date Particulars `

Date Particulars ` Date Particulars `

Balance Sheet of HP M/s as at 31st December, 20X1

Balance Sheet of HP M/s as at 31st December, 20X2

© The Institute of Chartered Accountants of India

Balance Sheet of HP M/s as at 31st December, 20X3

Interest suspense method

1. When the asset is acquired on hire purchase

© The Institute of Chartered Accountants of India

Date Particulars ` Date Particulars `

Date Particulars ` Date Particulars `