consumer finance & hps

8/13/2019 Consumer Finance & Hps

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CO SUMER FI A CE

Definition

The term consumer finance refers to the activities involved in granting credit to consumers to

enable them to posses goods meant for everyday use. It is known by several names such as credit

merchandising, deferred payments, installment buying, hire purchase, pay out of income scheme

etc.

Types of credit facilities available to Consumers

Revolving Credit

An ongoing credit arrangement similar to bank overdraft, whereby the financier on a revolving

basis grants credit is called revolving credit. The consumer is entitled to avail credit to the extent

sanctioned as the credit limit.Eg: Credit cards

Fixed Credit

It is like term loan whereby the financier provides loan for fixed period of time. The credit has to

be squared off within the stipulated period.Eg: Monthly installment scheme, hire purchase.

Cash loan

Banks and financial institutions provide money with which the consumers buy articles for

personal consumption. Here the lender and the sellers are different. The lender does not have the

responsibilities of the seller.

Secured Finance

In this type the credit is granted based on particular collateral. The collateral is taken by the

creditor in order to satisfy the debt in the event of default by the borrower. The collateral may be

in the form of personal property, real property or liquid assets.


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Unsecured Loans

In this type there is no security by the consumer against the money which is granted by the

financial institution.

Sources of Consumer finance

The various sources through which consumer finance is available to people is as given below.

Traders

The predominant agencies that are involved in the provision of consumer finance are traders they

include sales finance corporation, hire purchase and other such financial institutions.

Commercial Banks

Commercial bakes take keen interest in providing directly or indirectly the finance for the

consumer durables. Banks lend large sums of money at wholesale rate to commercial or sales

finance companies, hire purchase concerns and other such financial intermediaries. Recently

banks have also started financing directly by giving personal loans which do not demand any

security and are cheaper than the hire purchase credit.

Credit card institutions

Credit card institutions arrange for credit purchase of articles through the respective banks which

issue credit cards. The credit card system allows a person to buy goods and services on credit.

The credit card system works as follows.


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BFCs

Non banking finance companies constitute another important source of consumer finance.Consumer finance companies also known as small loan companies, personal finance companies

or licensed lenders are non saving institutions whose prime assets constitute sale finance

receivable, personal cash loans to consumers, and short intermediate term business receivables

etc. These finance companies charge substantially higher rates of interest than the market rates.

Other Sources

1. Savings and loan association.

2. Mutual savings banks.

Process of Consumer Finance

Credit card presented by

buyer

Seller prepares 3vouchers for

buyer,company andseller

Sellers bankf/w to creditcard issuingcompany

The bankcreditssellers a/c&debitscustomera/c


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Index

1. Contract for financing

2. Sale of Consumer durable

3. Financing for consumer durable

4. Instalment payment

Modes of Consumer finance

Consumer finance is available through several ways as shown below

Open Account

Open account is a method of consumer financing whereby he retailer allows the consumer to

make number of purchases during the month not exceeding a certain value. These are neither a

down payment nor any interest charged on such credit. It is the most popular form of credit

account.

Customer

Banker/Financier

Merchant

1

3

2

4

1


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Credit Card

Credit cards are emerging as the most popular mode of consumer finance and slowly replacing

paper money. They have brought about a revolution in individual wealth holding.

Revolving Account

This is a type of account which allows a customer the facility of making purchase during a

month and making payments thereof on a deferred payment basis by easy installments. The

consumer is allowed to make fresh purchases since the credit is reduced by the monthly

installments. The charge for the credit is calculated as a percentage of the purchase price whichus then added to the purchase cost of the article.

Option plan

Under this plan a customer has the option of paying the amount mentioned in the statement of

account either in full or in part and thus having a balance brought forward. A charge for the

credit is calculated as a percentage of the balance outstanding at each month end and asses to the

balance.

Installment Account

A most popular mode of consumer finance the installment credit is more a sales promotion

exercise for the dealers. It has become a permanent part of the business structure in many

countries. Under this plan the consumer pays up for the sale of a consumer durable in equal

periodical installments.

Cash loan

It takes the form of credit being extended in the form of cash. Consumers resort to this plan in

order to consolidate the existing dents into one lump sum or for the purpose of purchasing

merchandise or services. The period of such loans vary depending on finance companies.

Factors that contribute for the Demand for Consumer finance


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1. Increase in consumer disposal income.

2. Enhancement in real income of consumers.

3. Convenient size of the installment payments.

4. Growth in nuclear families leading to spurt in number of households.

5. Lower charges.

6. Down payments and credit contract.

Consumer Finance practice in India

Consumer finance in India covers a wide range of products such as TV, Cars, washing machines,

refrigerators, geysers, air conditioners, computers etc. The products covered posses a distinctfeatures such as specific indentifiability, durability, and substantiability, repossess ability, sale

ability, serviceability and repair ability of the products. An important feature of consumer credit

in India is the system of sales tax levied on the sale of products by hire purchase or installments.

Terms of Finance

Eligibility

The basic eligibility for consumer finance is the income of the individual and the nature of

employment. In addition the tenure of employment of the consumer is also taken into

consideration before granting consumer finance.

Guarantee

Usually financiers insist on guarantee for the credit availed by the consumer. The guarantors

need to have a better income and standing than consumer.

Tenure

Consumer finance is granted for a short period of up to 5 years. This again depends on the levels

of competition in the market.

Rate of Interest


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The effective rate of interest for consumer finance is much higher than the rates applicable to

business finance. This is because the loans are granted based on the personal integrity of the

consumer.

Other charges

In addition to the rate of interest finance companies also charge documentation fees, processing

fees, management fees, service charges, brokerage, collection costs etc.

Modes of Payment

In case of individual loans payments are usually collected in the form of post dated cheques. Inthe case of institutional financing there is an arrangement for the deduction of installments from

the salary of the employee.

Credit Evaluation

A verification of the details furnished by the consumer is carried out in order to ascertain the

validity of the statement and credit standing of the consumer.

MARKETING CONSUMER FINANCE

The privilege of availing credit from a retail store is often an attraction to consumers to continue

buying from the same store. This results in store loyalty which is advantageous to retailers. In

foreign countries companies go to the extent of advertising in such a manner as to convert cash

customers into credit customers. Retailers often mail personal letters to attract customers. In the

event of promotion campaigning by finance companies, the demand may come both from

existing customers with additional credit needs and also from new customers.

Care is always taken by companies to adopt a policy of efficient credit collection, without

sacrificing the quality of accounts. Of late the consumer credit industry has started paying

attention to new graduates and the newly shifting families. Similarly finance companies also

collect the addresses of new tenants from building societies or real estate agents. As the salaried

class constitutes most reliable credit customers, finance companies exert great efforts to get tie-


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ups with employers or employee co-operative societies, in order to meet their regular credit

demands.

Consumer Finance Insurance

It is a common practice in countries like the United States to grant credit insurance in respect of

finance to consumers. This is kind of insurance is called consumer credit insurance. The

insurance provides for coverage in the eventuality of consumer default in installment payments.

The premium for such insurance is usually collected from the customers.

Case for Consumer Finance

Consumer finance plays an important role in the mass production and distribution of consumer

durables such as motor cars, TV sets, typewriters, radios, sewing machines,

electrical appliances and many other goods. Offering credit is a great convenience to consumers.

Further credit has come to occupy an important place in the modern competitive market. It is

used as a selling device and also as an ideal method of sales promotion. A case in point is the

wide usage of credit cards. Credit cards are a tool of modern credit play a key role in many

western countries, enabling consumers to purchase a wide variety of goods and services.

Following arguments given in favor of consumer finance

a. Enjoying Possession

An important benefit of consumer credit is that it allows people to enjoy the possession of goods

without having to pay for them immediately. The user does not have to wait and save money for

purchasing a dream product.

b. Compulsory Saving

Consumer credit allows for a mechanism of compulsory saving. This has the effect of inducing

people into using their income more wisely. It promotes thrift among people and enables people

with limited means to acquire goods.


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c. Convenient mode

Consumer credit through the open account system offers a convenient mode of acquiring

consumer durables.

d. Meeting emergency

Consumer credit is useful in meeting emergencies such as illness, accident and death which

involve unexpected expenses. This also helps save the esteem of the consumer in dire

circumstances.

e. Maximization of revenue

Consumer credit failitates speedy disposal of goods which would have remained unsold in the

absence of a credit facility to consumers. Credit induces more business. This is quiet true with

regard to non- essential or luxury goods such as motor cars, trucks, fridges, typewriters, tv sets,

all kinds of electrical appliances, sewing machines, etc., it is therefore possible for the

manufacturers and dealers to secure ever increasing sales and profits through credit sales.

f. Realization of dreams

Consumer credit is a boon for a consumer who can enjoy the possession of goods without paying

for them immediately. The installments can be conveniently paid spread over a fixed future

period. Consumers are in a position to budget for the purchase of even expensive capital items

out of their regular fixed and limited income. For instance it is quite possible for a newly married

couple to establish an ultra modern lifestyle and enjoy all the modern amenities of life by

acquiring goods immediately, without waiting for the accumulation of savings.

g. accelerates industrial investments


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Consumer credit accelerates investment in the consumer durable industry, ultimately giving rise

to growing levels of income and employment. The facility of credit sales makes it possible to

acquire goods of high and lasting value which are otherwise beyond the purchasing power of the

middle and the lower income classes.

h. enhanced living standard

The facility of credit enables people of even limited means to acquire articles to enhance their

general standard of living at an accelerated pace.

i. promoting economic developments

The facility of consumer credit promotes higher levels of investment, employment and income,

thus raising the effective level of demand. All this result in industrial prosperity and employment

multiplication. Thus the economy is able to achieve higher standards of growth and

development.

j. Exportation

Credit sale in the form of deferred payments is a boon to small scale manufacturers and

producers. The enhanced sales pave the way for exportable surplus, which in turn induce the

industrial development. This ultimately contributes to the economic growth of developing

countries.

k. Effective stock Management

Consumer credit facliltates quick disposal of surplus stock even during a period of depression.

This helps prevent accumulation of stocks and ensures stable production. Better inventory

turnover ratio maximizes sales and minimizes cost.


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i. Large Scale Production

Consumer credit is responsible for causing production on a large scale basis. This eventually

makes it possible to price goods at a lower rate. This in turn engineers efficient delivery of

product in the mass market.

j. Protection Against Inflation

With inflation becoming a permanent phenomenon, prices of all goods rise every year.

Consumer credit serves as an effective antidote against such rising prices as it is possible toacquire goods without paying cash for the full price, resulting in consumers saving expenses in

two ways. Firstly, the evil effects of inflation are warded off and secondly, the effective cash

outflow and future installment payment is less because of depreciated money value.

ATIO AL IMPORTA CE

Consumer credit is a great boon to the modern economy. Credit greatly facilitates sales and

distribution of capital goods which are indispensable to the modern economy. Consumer credit

keeps the wheels of industry running smoothly thus contributing to industrial and economic

development.

Case against consumer finance

Despite the fact that consumer credit for costly and durable goods is convenient and beneficial to

all parties concerned, one must guard against excessive or indiscriminate credit demands.

Consumer credit suffers from the following drawbacks

Thoughtless Buying


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Insolvency Costly credit (as the effective rate of interest is much higher) Risk to traders Artificial boom Bad debt risk Economic insatiability

HIRE PURCHASI G (HPS)

Definition

The mode of acquiring ownership of consumer durables by individuals and productive assets by

manufacturers, whereby the payment for the product is conveniently spread over a period of two

or three years, is known as hire purchase system. Hire purchase serves as a convenient tool of

credit in situations where it is difficult to save in advance to make the purchase of expensive

articles but find it easier to make regular payment, weekly or monthly, after they receive the

article.

Characteristics

Following are the characteristics features of hire purchasing:

1. Popular method- hire purchase is the most popular method used for the sale of expensive

and durable goods on credit

2. Retention right- in hire purchase, the seller sells on credit to buyers, the security being the

sellers right to retain property rights on the goods sold

3. Installments- the hire purchase price is paid in installments spread over a fixed period


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4. Ownership- the property rights in goods sold remains with the seller, and the buyer gets

legal ownership of the article only after the payment of the last installment.

5. Agreement- the hire purchase transaction takes place through a formal written agreement

signed by the seller and the buyer.

6. Possession- the buyer is given possession of the goods on payment of the first rental

amount in cash known as down payment.

7. Default- when the buyer defaults, i.e., fails to either pay the specified installments orinsure the article in accordance with the terms of contract, the seller has the right to

terminate the hire purchase agreement and take re-possession of the article. Is the

agreement is terminated because of default, the hirer of the buyer will have no claim to

amount already paid, since that amount is already treated as rental charges.

8. no beach of trust- under the hire purchase agreement, the buyer simply

hires the article. The buyer cannot commit any criminal breach of trust. If the buyer does

so, and manages to sell the article, the seller can recover article from the sub-buyer, since

there is no transfer of ownership.

Hire purchase agreement

The hire purchase agreement serves as the basis of hire purchase financing. Following are some

of the features of the agreement:

a. Formal agreement- it is a formal agreement between a seller and a buyer, under which the

seller agrees to transfer possession of an article to the buyer.


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b. Document- it is a document that sets out the terms and conditions on the basis of which

goods are sold on credit. It also sets out payment schedule spead over a fixed future

period.

c. Property- the property ownership right for the goods passes from the seller to the buyer

only when the last installment is paid and only where the buyer fulfills all the terms of

agreement,

d. Owner- the seller if the owner of the goods, right up to the payment of the last

installments. Therefore the seller can take possession of the article sold in the event of

failure to pay the installments.

Advantages of hire purchase system

Hire purchase financing is an ideal mode of consumer and industrial credit in many countries.

Presently, it has become a recognized method of doing business whenever it involves the sale of

durable and high-price goods. Hire purchasing finance offers the following advantages:

a. No immediate cash- hire purchase finance helps asset creation without having to

immediately part with the cash

b. Easy possession- the hire purchase financing system helps individuals of limited means to

realize their dreams by facilitating the possession of the article

c. Economic growth- hire purchase finance helps th growth of the economy by engancing,

incestiment and sales. In addition, the mass sale of expensive and durable goods also

contributes to employment generation. it helps mass production and accelerates industrial

development and economic growth

d. Thrift- hire purchase indicates/ forces the saving habit on the buyer so that it becomes possible to pay installments without default.

e. Relief to buyer- it relieves the buyer of arranging for loans and advances which

eventually involves a financial burden to pay for the asst. it is considered to be

advantageous especially for the small sector farmers and industrialists.

Disadvantages of hire purchase system


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a. available only to reputed buyers

b. induces mindless, indiscriminate and lberal purchases which may lead to bankruptcy

c. buyer has to mortgage his/her future income

d. danger of buyer losing property during depression, as the value of the property

diminishes

e. danger of buyer having to lose even the paid installments in the event of default

f. higher price thus making the purchase, an expensive proposition

g. loss to seller in the event of default by the buyer, which may result in the seller having to

repossess an article which may not fetch much market value

Hire Purchase Cost

Hire purchase finance is a lucrative form of financial investment. Although the field appears

speculative, it provides a high interest of income to traders. In fact, traders earn double the

nominal interest rates. Under the various systems of consumer credit, interest is calculated on the

nominal rate that is added to the cash price of the asset purchased. The amount of installment is

determined by dividing the purchase price with the number of months of credit provided by the

trader. Interest liability remains the same throughout the period of credit as interest is calculated

on fixed cost price of the asset.

For traders, the higher installment price is justified on the frount that there is an inherent risk of

default and repossession, and the article not fetching a price sufficient to pay for the unpaid

installments.

Eligibility

Consumer credit, such as hire purchase and installment purchase etc is suitable for individuals

who meet the following criteria:


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a. persons with regular and stable income, and capacity to pay installments from the current

income

b. persons must be competent to enter into a contract and hence, a minot is not eligible for

such sales

c. foreigners and persons having no permanent residence in the country are disqualified for

such credit sales

d. persons having no settled or established life at one place are not allowed such credit sales

Installment Credit System( ICS)

Definition

A system of consumer financing, whereby the payment of purchase price is deferred, to be paid

in reasonable installments, is known as installment credit system;

Features

The installment system, which is a modified hire purchase sale, has the following features,

a. An ordinary sale of goods with easy payment system

b. The buyer obtains ownership and possession on payment of the first installment

c. No possibility of the article sold being returned to the seller, since sale is complete

immediately after the execution of the agreement

d. No possibility of the article sold being returned to the seller, since sale is complete

immediately after the execution of the agreement

e. Seller has no right to recover possession of the goods even if the buyer commits a default

in the payment of outstanding installments and there is no question of forfeiture of paid

installments against default. However, he is entitled to recover his dues with the help of

the court


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HPS & ICS

Similarities

a. They are forms of consumer finance for the sale of expensive and durable goods

b. They are recognized by the Indian Sale of Goods Act

c. Recovery of the price is through installments spread over a fixed period of time

d. Both deliver rich dividends in times of prosperity, but suffer heavily during depressions

Suitability

a. Separate identity or individuality to facilitate their recovery when there is a default

b. Durability to sustain the long period of installments and facilitate re-possession in the

even of a default

c. Portability to facilitate re-possession in the even of a default

d. High enough value to justify a hire purchase agreement

e. Standard specifications to facilitate reselling, if necessary

f. Stable value and good yield, or a sufficient profit margin

The system of HPS & ICS is suitable for goods tht help to pay for themselves such as furniture,

radio & TV sets, refrigerators, etc

Safeguards

The following factors should be considered when granting credit for hire purchase or installment

sale:

a. Perishability of goods

b. Capital resources of the trader for investment

c. The three Cs of the buyers financial and moral character, capacity and capital

d. Degree of competition to be met and stability of trade

e. Duration of credit, a shorter period when business is brisk and a longer period during the

slack season, with the usual period ranging from five to seven or ten years


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HPS vs. ICS

S.No. Feature HPS ICS

1. Actual sale Hp becomes an

actual sale only on

the payment of last

installment

The payment of first

installment is

sufficient to make ic

an outright sale

2. Legal ownership The buyer obtains

possession without

ownership until thelast installment

payment

Buyer obtains both

ownership and

possessionimmediately after

the agreement is

executed and first

installment is paid

to the seller

3. Hirer/ owner Buyer s merely

hiring the article,

and hence is not its

real owner

Buyer is rightful

owner on payment

of fist installment

4. Right to sewll Hire purchases

cannot sell until last

hire charge is paid

Buyer can sell the

article at any time

5 Legal protection The seller gets

maximum

protection of law

Buyer gets

maximum

protection of the law

6. Default Buyer loses both the

artivle ant the entire

amount paid if there

is default

No risk of loss to

buyer even on

default

7. Sellers ownership The seller can get

back the ownershio

The seller cannot

repossess but has


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and possession if

there is a default

remedy, can sue

buyer in the court

8. Bad debt Limited rish of bad

debts

High risk of bad

debts

consumer finance & hps

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