Accounting Question And Answers - Hire Purchase Accounting
Question: Considering hire purchase accounting how do I record for hire purchase and its interest that I pay to the bank?
eg: if I have borrowed 100,000 through the hire purchase with 4% interest per annum for 5 years, how do I record it and the interest. what happens when i pay, where do i record?
Answer: Considering hire purchase accounting, we talk about assets which must be capitalised despite the ownership title to them will be transferred to the acquiring entity only after all the payment for the assets is made. Such payment is made within certain determined period of time.
In your example we have 100,000 hire purchase contract value for 5 years with 4% of annual interest rate. For the accounting purposes we need to capitalize asset and record liability to the seller:
D Asset 100,000
D Hire Purchase Interest Account (Asset) 100,000*0.04*5=20000
C Hire Purchase Liability Account 100,000+20,000=120,000
Assume that payments are being made on an annual basis, then after the end of the first year the following entry will be done
D Interest Expenses (Profit/Loss statement) 4000
C Hire Purchase Interest Account (Asset) 4000
D Hire Purchase Liability Account 100,000/5=20,000+4,000
C Cash 24,000
The same can be done on a monthly basis. At the end of 5 years there will be 0 values in hire purchase liability and interest accounts.
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