Whether you’re considering hire purchase for a vehicle, business equipment, or other expensive items, this post will help you understand the Top 10 benefits and also the potential pitfalls.
Once you’ve reached the end, you will be in a better position to determine whether hire purchase is the right choice for your needs.
What is a Hire Purchase Agreement?
Hire purchase (HP) is a method of purchasing an expensive item by spreading the cost over time, rather than paying the full price up front. It’s an agreement between you (the buyer) and the seller that lets you use what you’re buying immediately, even though you haven’t fully paid for it yet.
Here’s how it typically works.
First, you usually pay a small amount upfront – a deposit. Then, you make monthly payments for a set period. These include the cost of the item and interest charged by the seller/lender. The agreement typically lasts between 1 and 5 years, depending on the type of product being purchased.
The most important thing to understand about hire purchase is that, while you can use the item straight away, you don’t actually own it until you’ve made the final payment. This means that if you stop making payments, the seller has the right to reclaim the item.
What Can Hire Purchase Be Used For?
It is particularly popular for buying expensive items like cars, commercial vehicles, or machinery/equipment. It helps people and businesses get the things they need without having to save up (or borrow from a bank) the full amount first.
- Cars, Pickups, Vans & Motorhomes
- Commercial vehicles (trucks, trailers, minibuses, etc.)
- Machinery (tractors, diggers, CNC equipment, etc.)
- Business equipment (computers, printers, etc.)
Many people might think that HP can only be used to buy “new” items, but in fact, it is often used to buy second-hand equipment. This is especially helpful for businesses looking to purchase machinery that may cost £100,000s.
Advantages Of Hire Purchase
1. Immediate Use Without Full Payment
Hire purchase allows you to start using the asset (such as a car or machinery) immediately after signing the contract and paying the initial deposit. This means you can benefit from using the item to generate income or meet your needs while you’re still paying for it over time.
2. Purchase Expensive Items/Equipment
Hire purchase enables businesses to acquire expensive machinery or equipment that would be unaffordable as a single payment, allowing them to access vital assets needed for their operations without having a large amount of capital available upfront.
3. Spread Cost Over Instalments
Instead of paying a large lump sum upfront, hire purchase allows you to break down the total cost into smaller monthly payments over several years, making it easier to afford expensive items.
4. Fixed Interest Rates Throughout Term
With hire purchase, the interest rate is fixed for the entire duration of the agreement, regardless of any changes in the Bank of England’s base rate. This makes it easier to budget, as your monthly payments will remain the same throughout the term.
5. Helps With Cash Flow
By spreading the cost into predictable monthly payments, hire purchase helps maintain a stable cash flow and doesn’t disrupt your everyday living expenses or business operations, as you’re not depleting your savings all at once.
6. Choose Deposit Amount And Terms
HP offers flexibility by allowing you to select a deposit amount and repayment term that suits your financial situation, helping you structure the agreement to match your budget and cash flow requirements. This means you can adjust the initial down payment and length of the agreement to ensure the monthly payments are affordable for you.
7. Asset Serves As Collateral
Since the item serves as collateral for the hire purchase agreement, you may not need to provide additional security or guarantees, making it easier to get approved compared to traditional high-street bank loans. This means the finance company has less risk because they can repossess the asset if payments aren’t made, often resulting in easier approval processes.
8. Ownership Transfers After Final Payment
Once you’ve made the final payment under your hire purchase agreement, you become the legal owner of the asset and can do with it as you wish, including selling or modifying it. This differs from leasing, where you never own the item.
9. Tax Benefits (Especially For Businesses)
Businesses can claim capital allowances on hire purchase assets and reclaim VAT (if they’re VAT-registered), which can reduce their taxable profits and overall tax liability. Additionally, the interest applied to hire purchase payments may be tax-deductible as a business expense.
10. Simple Financing Process
Arranging hire purchase is a straightforward process. The terms are usually not complicated, making it easy to understand and arrange compared to other types of financing. The application and approval process is typically simpler than traditional bank loans, with fewer requirements and paperwork involved.
Evangate FS can handle the application process for you, and we’ll find the best deals from our network of over 150 finance providers.
Disadvantages Of Hire Purchase
1. Interest Rates And Total Cost
Due to the addition of interest charges and fees over the repayment period, you end up paying more for the item than if you had bought it outright with cash.
2. Longer Payment Duration
Agreements typically are 3-5 years, which means you’re tied into making payments for a longer period, even if your circumstances change.
3. Cannot Easily Adjust Payments
Once you’ve signed a hire purchase agreement, the payments are fixed. They cannot be easily modified even if your financial situation changes due to loss of business, illness, or other circumstances. However, by using a finance broker such as Evangate FS, we can explore other options for refinancing the outstanding debt if need be.
4. No Ownership Until Final Payment
You don’t legally own the item until you’ve made the very last payment (including any “balloon” payments) on your HP agreement, despite having paid most of its value through the monthly instalments. This means you cannot sell or permanently modify the asset without permission, as it legally belongs to the finance company until the HP agreement is fully paid off.
5. Risk Of Repossession If Payments Are Missed
If you miss payments, the finance company has the legal right to repossess the item since they remain the owner until the final instalment is made. This means you could lose both the asset and all the money you’ve already paid towards it if you fail to keep up with the payments.
6. Effect On Credit Score
Missing payments will be reported to credit reference agencies and can damage your credit score, making it harder to get loans or finance/credit in the future. This negative impact on your credit rating can last for several years.
7. Depreciation Risk
The asset may depreciate (lose value) faster than you’re paying for it, meaning you could end up owing more than the item is worth. This is particularly true for vehicles and technology equipment.
8. Insurance Shortfall For Stolen/Destroyed Assets
If the asset is stolen or destroyed during the term of the agreement, your insurance payout may not cover the full amount you still owe. This means you could end up making payments on an item you can no longer use.
9. Additional Insurance Costs
You may need to purchase additional insurance coverage, like “gap insurance”, to protect against potential shortfalls between what you owe and what your regular insurance would pay if the asset is stolen or is unusable. This additional insurance increases the overall cost of the agreement.
10. Limited Ability To Upgrade During Term
During the contract period, you cannot easily upgrade to a newer model without first settling the existing agreement, and you may face potential penalties. This means you could be stuck with outdated equipment or machinery, even if better options are available. It is for this reason that many businesses consider plant machinery finance leasing, or operating leases for items such as mini diggers when they want to have access to the latest technology.
Balloon Hire Purchase Explained
Balloon hire purchase contracts operate differently from standard agreements in terms of their payment structure. With this special arrangement, you make smaller monthly payments throughout the agreed period, but then face a larger final payment (called the balloon payment) at the very end.
For example, if you’re buying something worth £50,000 (including interest), with a standard HP agreement, you might pay an initial £14,000 deposit followed by 36 monthly payments of £1,000 (total £50k).
With a balloon agreement, you still pay an initial £14,000 deposit, but this time the monthly payments are reduced to £700 per month for 35 months (equaling £24,500). The final “balloon” payment is £11,500.
While the lower monthly payments might seem attractive at first (and help with cash flow), that large balloon payment at the end can become a severe headache if you haven’t adequately planned for it.
This can force some businesses into taking out additional loans or asset finance just to cover the balloon payment, potentially creating a cycle of debt.
Variable Rate Hire Purchase
While this post mainly discusses the benefits of fixed rate hire purchase agreements, at Evangate FS, we can arrange variable rate HP as well.
With variable rate agreements, the interest rate charged is typically based on the Bank of England’s base rate, with lenders adding a margin on top based on factors such as your credit score.
This means that during periods of falling interest rates, you could benefit from lower monthly payments, but when base rates rise, your payments would increase too.
Hire Purchase Pros And Cons Summary
The decision to use HP is quite simply based on weighing the benefits against the higher overall cost and long-term financial commitment required.
As we have seen, hire purchase offers several advantages, including the immediate use of assets while spreading the cost through fixed monthly payments, transfer of ownership at the end of the agreement, and valuable tax benefits for businesses.
However, the cons of hire purchase include paying more in total due to interest charges, no ownership until the final monthly repayment is made, and the risk of repossession if payments are missed.
If you are interested in HP, then please speak with the team at Evangate FS. We can discuss other finance options available, such as personal contract purchase (PCP) or various business finance leasing options.
