I've a query that I hope you can help with - I have a client that has taken on a HP agreement, she is paying X amount a month, over 3 years and at the end can choose to pay an additional payment to keep the vehicle or she can just give it back and walk away. Interest is charged on the original cash price of course. I need to get this all into the ledgers, so far I have:
DR fixed assets - with cash price of vehicle CR liabilities (short/long term) - with cash price owed to HP company
Each time a payment is made (or at year end), i will reduce the liability by the capital repayment element of the payment (DR), and CR the bank, the interest element of the payments is CR bank and DR interest charged in the P&L.
does this sound right ?? I've read about setting up a deferred interest account for the 'future interest commitments', but I'm not sure how this would work, double entry etc....any advice?
The monthly hire purchase repayment is made up of both capital and interest elements. You are correct to debit the HP account and credit bank, but you then need to debit Hire Purchase interest in the P&L and then credit the HP account, not the bank.
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"People who are exceptionally good in business arent so because of what they know but because of their insatiable need to know more"
If for example the amount borrowed excluding interest was £10K over 5 years and the repayment per month was £217, the total amount repayable would be £13020. The interest payable over the term would be £3020 i.e. £13020 less the amount borrowed of £1OK. The interest element of the repayment would be approx £50.33 per month (£3020 / 60 months).
Assuming the asset was purchased at the start of the financial year, to account for the interest you would debit HP interest in the P&L at the year end with £603.96, and credit the HP Control account. This amount would contra against the repayments you post to the HP account and leave the net amount owing as at the year end. You would do the same each year until the amount borrowed is paid off.
Hope this helps?
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"People who are exceptionally good in business arent so because of what they know but because of their insatiable need to know more"
I was fairly sure I needed to recognise the future years commitment of interest, rather than just the current years - but I will adopt your approach because it makes sense and is easier to manage!! Plus, we arent talking huge amounts of money here anyway!
