Since it’s one of the most popular kinds of credit agreement, you’ve perhaps heard people talking about hire purchase – often referred to as ‘HP’.
A hire purchase contract is a kind of finance agreement. It’s a popular way of buying expensive items as you get the product upfront then make monthly payments until the full cost is paid off.
Like all agreements made with a finance company, hire purchase has its pros and cons – as well as slightly different ways of working that depend on the specific kind of contract you sign up for.
Here, we’ll take a look at hire purchase (HP) and how it works in more detail.
What are hire purchase agreements and how do they work?
A hire purchase agreement is a specific kind of finance – one which is ‘secured’ against the item you’re buying.
This means the product doesn’t become legally yours until you’ve paid the agreement off completely. Until then, the item is ‘security’ for the loan – something the finance company can take back if you stop paying.
Since you don’t own the item until your final payment is made, it’s against the law to sell anything that you’re currently paying for through a hire purchase agreement.
Who is your HP agreement with?
Lots of retailers offer hire purchase, but the actual agreement that you sign will usually be with a third party – a finance company.
For example; if you buy a laptop from a high-street electrical shop, you will often see advertising in the store offering monthly payments. If you decide to apply for this hire purchase, you’ll complete an application that’s sent to a finance company for approval.
As long as you’re approved, the finance company will pay the retailer for the item you’ve bought – then, the agreement becomes between you and that finance provider.
Although most people use the finance company that the retailer has a partnership with, this isn’t your only option. There are finance companies that will agree an amount of finance then let you search for a vehicle or product that suits you.
How long is a typical hire purchase agreement?
Hire purchase agreements have no set repayment period, they can vary in length depending on what you’re buying and what you can afford.
Typically, the repayments for a new car bought using an HP agreement will be spread over 6-7 years. Spreading payments out like this helps to keep monthly payments affordable.
For smaller items (such as mobile phones, electronics, or tools), the payment period is usually kept shorter – often between 1-3 years.
Although monthly payments are kept low when the hire purchase agreement length is longer, this also adds to the cost – as more interest is added every month.
How much does hire purchase cost?
Although the simple view of hire purchase is that you’re just spreading the cost over monthly payments – the overall price you’ll end up paying is often significantly more that if you bought the item outright.
Take a look at some of the additional payments and fees that go along with hire purchase agreements:
Interest payments
Interest is usually added each month to the amount of money that’s still outstanding. This means that the longer the hire purchase plan runs for, the more interest is added and the more money you’ll end up paying back.
Completion fees
When you get to the end of an HP agreement, the item won’t always automatically become yours. Instead, you’ll often have to make a ‘completion’ payment – sometimes referred to as a ‘right to buy’ fee or ‘purchase fee’.
Sometimes this is a small payment – but occasionally it can be a large ‘balloon’ payment – especially when you’re dealing with car finance companies and ‘personal contract purchase’ (PCP) hire purchase products.
Penalty fees
If you miss payments or make late payments, finance company charges can add up very quickly.
There will usually be a late payment fee – a fixed charge for missing any payment.
You will also usually be charged additional interest on any unpaid amount or arrears (missed payments).
Administration charges
If you need to make any adjustments to your agreement (including changing your payment date), you may be charged an administration fee for doing so.
Repossession charges
If you fall behind on payments and don’t find a way of catching up or negotiating with your finance provider, they will usually take steps to repossess (take back) the item you have bought.
There are significant fees involved with this – and, since it’s usually come after other debt collection efforts, you could end up owing a lot if your item has to be repossessed. You may even find yourself paying court fees and bailiff costs.
Is hire purchase price likely to be more than the cash price?
As you can see from the additional fees and costs we’ve listed above, the overall amount you’ll spend buying something with a hire purchase agreement is usually a lot more than you’d spend if you bought it using cash.
The additional amount you’ll pay can be easily worked out though – so you can decide before you sign whether it’s what you want to do.
On your hire purchase paperwork you’ll see an ‘overall hire purchase price‘ figure quoted. This is the amount you’ll have paid at the end of the term when the item becomes yours.
If you take the retail price of the item away from this hire purchase cost, you’ll be able to see how much the hire purchase will cost.
For example, a new mobile phone might have a price tag of £800. If total repayment amount shown on your hire purchase agreement is £1,000, then the additional cost for using HP is the difference – £200.
It’s important to remember that this overall cost doesn’t include any late payment fees or other penalty costs – so your overall HP cost could be much higher if you fall behind with payments.
Is a PCP plan a type of hire purchase?
Yes. A personal contract purchase (PCP) plan is a type of hire purchase that typically has low monthly repayments – but a large ‘balloon’ payment at the end of the term if you’d like to keep the item (usually a car).
A PCP plan works by postponing a large chunk of the overall cost of the item until the last month of the agreement. If you decide you’d rather not keep the item, then no final payment is required and the product can be handed back.
Alternatively, if you do want to keep the item or vehicle, then you can make this one-off balloon payment and it becomes yours.
Your options should have been explained at the beginning of your agreement, so the balloon payment shouldn’t be a shock – but it is worth thinking carefully how you’ll pay this if you’d like to take possession of the car.
Paying hire purchase agreements off early
It’s possible to pay a hire purchase agreement off earlier than planned – but this can often be expensive.
Although different finance companies have different ways of working, you’ll usually find that a ‘settlement figure’ (the amount you need to pay to end the agreement and take ownership of what you’ve bought) is all your remaining payments added up into a lump sum.
Finance companies will usually always try to get everything you owe. This can make paying an HP agreement off very expensive – especially if you haven’t had the product for very long.
For example; if you buy a used car that’s got a retail price of £10,000 over 5 years, the overall amount of you’ll pay back is likely to be somewhere around £12,000. If you have the car for just 2 months then decide to pay your HP off, you’ll still pay this full £12,000.
What are some pros and cons of a hire purchase agreement?
Hire purchase agreements are a popular way to purchase a huge range of items – from vehicles from a car dealer through to electrical items like mobile phones or laptops.
Even though they’re a popular choice, it’s important to understand that they have both advantages and disadvantages.
Pros
- The initial down payment is often low or even zero
- You can usually adjust the term of the finance to suit the amount you can pay
- It is widely available for a large range of products – even big purchases like vehicles
- Since the item is considered ‘security’, lenders are often more open to offering an HP agreement to someone with a lower credit score
- You can give the item back if you cannot make the payments (although this can be complicated and can sometimes result in additional fees and charges)
Cons
- The item can be taken back (repossessed) if you fall behind with payments
- You cannot legally sell the item until the final payment is made
- There is sometimes a ‘balloon payment’ to be made at the end of the agreement
- You do not own the item until it’s full payment period is up and all the payments and additional fees have been made
- It can be expensive if you plan to settle the agreement early
- You may be charged a lot of interest if you don’t have a good credit rating
- It may not be available if you if you have a low credit rating
Since hire purchase is a kind of credit that many people use to ‘rent to own’ items that they could not otherwise afford, it’s sometimes seen as a normal part of everyday life to have monthly payments.
No matter how normal HP might seem – it’s vitally important to think about the pros and cons and decide whether or not you can practically and affordably pay for an item over a number of months or years.