The Hard SOLVING THE PROBLEMS
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Facts of
HIRE PURCHASE
A Reference to Bygone Days : How the Operator Should Treat his Instalments in Respect of Income-tax Allowances and in his Accounts THERE is au increasing tendency for.small operators. to make use of hire-purchase when acquiring their new vehicles. It is to be hoped, however, that this tendency will not be accompanied by a renewal of the corrupt and foolish practices so rife in pre-war days. A reminder may not be out of place.
When I used the word " corrupt" I had in mind the trick so often practised by the less-reputable clearing houses, which also arranged for their sub-contractors to purchase their vehicles through the clearing-house organization. Thereafter the small haulier was apt to get into a position whereby he was practically tied to that clearing house. He had to work for it at whatever rates were offered him, and then, because those rates were uneconomic, found himself unable to keep up his hire-purchase payments and eventually lost both his vehicle and his business.
Temptation of Improvidence
The foolish practice which developed at the same time was that of rate-cutting by the improvident type of operator. His rates were probably uneconomic anyway, so that the time was bound to come when, an instalment becoming due, he had not the money to pay it. Then he would look around for any job and do it at any rate so long as it brought him the cash necessary to meet that commitment. Then he plunged further and further into debt, cutting rates to ribbons as he went along. .
Hire-purchase can be a good servant but a bad master. The operator to-day, who is rebuilding his fleet or renewing his rolling stock, will not in arty wise be diverted on account of the fact that, he..-makes his first, or even subsequent, vehicle purchases by such means. Indeed, he is likely to be helped rather than hindered thereby.
A good many small hauliers have, I find from my correspondence files, wrong ideas as to the way they should treat these instalments when recording their costs of operation. Particularly are they confused as to the procedure to be followed in completing returns of income for taxation.
There are two aspects of that matter. First, readers should realize that the money spent on the purchase of new vehicles and equipment, however that may be acquired, is capital expenditure, and as such does not appear in a return of income assessment for taxation purposes. There is an allowance for depreciation, of course, but that begins only after a lapse of time and is nothing at all to do with hire-purchase instalments.
No Rebate of Taxation
That explanation effectively disposes of the suggestion, commonly mooted by inquirers, that they should set down the monthly instalments on hire-purchase account as expenditure relating to their businesses, on which they should be allowed a rebate of income tax. No such rebate is permissIle.
How the special allowance of one-fifth of capital expenditure on new equipment, which is allowed under the Income Tax Act of 1945, should be regarded when a vehicle is acquired under hire-purchase, is not quite clear. Different income-tax inspectors seem to approach the matter in different ways. Generally, however, the course is to apply for an allowance coveting one-fifth of the total of the hire-purchase payments made within the year of assessment to which the return refers. In a case of doubt, there is no harm in contacting the local income-tax inspector and asking his views.
It is, however, reasonable to expect some allowance in respect of income tax for the interest which has to be paid A8 on the initial price, in order to obtain the hire-purchase facilities. To arrive at the proper amount on which to claim, the full cash price of the vehicle should be deducted from the total paid under the hire-purchase contract. The balance is the sum which the purchaser is paying for the accommodation and may be allowed, either wholly or in part, as interest on a loan. The question next in order of importance, judging by the number of inquiries on the point, is, how the instalments figure in the operating costs of the vehicle. The answer is, "Not at all." No matter from what angle these payments may be viewed, there is no justification for debiting the vehicle with them as an item of operating cost.
Some operators are persistent in taking this attitude and continue to enter hire-purchase payments as operating costs after they have admitted to me the unreasonableness of so doing. One user, whom I remember in particular, prefers to regard his instalment payments as depredation, and wheu he has paid for it in that way, writes the vehicle off.
Payments Out of Profits
Strictly speaking, the payments are ones made out of profits. To be still more accurate, I should divide the payments into two, taking the amount paid for the vehicle as an instalment of the cash price and the other part as the interest charged. Then I should state that the first of these payments comes out of profits and the second is an establishment expense. Just to make this clear, let me take the case.of a vehicle the cash price of which is £900 and the amount of interest £90. The initial payment in connection with a hire-purchase contract extending over 18 months would probably be about £250 and the monthly payments would be, in round figures, £40. Of the latter, some £35 is on account of the actual cost price of the vehicle and £5 the proportion of interest payable. The £35 should be taken out of the profits of the business, whereas the £5 is an establishment charge. .
The point can be appreciated more readily if it be considered in this way. The purchaser of the vehicle must, during the first 18 months, make a profit of £40 per month, plus whatever other establishment charges he has to bear, in order to pay for his vehicle. If he makes no more than that amount, he can put no profit to his own account in the bank. if he makes less, then, if he has no reserve funds, he will find himself in difficulties because he will have insufficient funds to meet his payments.
Another £40 The point to bear in mind, of course, is that, once the 18 months is over, that £40 per month, which has'.: been coming o•tt of his profits, will thenceforward go " into his own pocket," and he will then be earning for himself £40 more each month than he has been doing during the period of 18 months.
The paint that now needs explanation and enlargement is as to where and what are these reserve funds.
A moderately priced, but reasonably well-found 6-tori• oil-engined platform lorry costs about £900. It may or may not be easy—depending upon tlua Conditions—for a haulage
contractor to make a gross profit of upwards of £40 per month with a vehicle of that size. Ackially, the figures in " The Commercial Motor' Tables of Operating Costs provide only for approximately £28 to £30. Admittedly that is a minimum, and operators are recommended to try , to get more, but the point is that £40 net profit is a good deal to expect.
It is, therefore, mere than likely that the operator will have to make use of reserve funds in the course of the 18 months in which he is paying for his vehicles.
What I have in mind in such reserves are those which I have so often recommended should be earmarked on account of operating costs of the vehicle to meet future .expenditure in upkeep, tyres, renewals, etc.
What I am recommending the operator to do is to spread the period over which the vehicle is " bought' by a process of borrowing from reserve funds. r
Teaching by Example
Perhaps the simplest way in which I can make myself clear is to take an example, and it will be convenient to take the one already mentioned, namely, this 6-tormer costing, when new and completely equipped, £900. I am going to assume that the machine is being bought on a hirepurchase contract, the purchaser paying approximately a quarter of the price down, which I have taken to be £250, and the balance over a period of 18 months.
In the beginning, then, the operator will be required to find this £250 down payment. If he is an owner-driver, all that he will have to find in addifion will be cash to pay his insurance premium and licence for the first year, say, £50 and £35, making a total of £335.
His expenses in the immediate future are now confined to garage rent and the purchase of petrol and oil. For all the other eight items of operating costs, some sort of reserve fund must be built up, and it is in the manipulation of that fund that the reserve for the hire-purchase instalment can be made.
I should make it clear that, for the time being, I am, in this calculation, confining myself entirely to the operating costs of the vehicle. Establishment charges, that is to say, expenses involved in the organization and running of the business itself, must be considered subsequently.
If I assume-that the vehicle runs 18 miles to the gallon of fuel oil and that that costs Is. 71d. per gallon, the cost per mile is 1.08d. Taking oil to be consumed at the rate of 800 miles per gallon and the cost 6s. 8d. per gallon, then we have a figure of 0.10d. per mile for lubricants. A set of tyres will cost £85. and if, as is likely, they are 34-in. by 7-in., they are not likely to last more than 17,000 miles per
set, which is equivalent to 1.2d. per mile. ' The next item in the regular schedule is maintenance, but that I want to discuss at some length. I will, therefore, leave it over for the moment and go on to depreciation. This item is calculated on the net cost of the vehicle without tyres, which is £815. Assuming a life of 200,000 miles, the depreciation per mile is £815 divided by 200,000, which is just about ld. per mile.. Standing charges on an annual basis are: Licence, £35; insurance, £50; garage rent, say, £26; interest on first cost, £36.
There are still wages to be considered, and although the owner-driver will drive the vehicle, he should properly include in his statement of costs a regular driver's wage, which is, as near is makes no matter, £260 per annum. The total so far is £411.
Now as to maintenance. There is in that a point which, for the time, is favourable to the owner-driver. The average total cost of maintenance of a vehicle of this type, running from 600 to 800 miles per week, is approximately lid, per mile. That figure, however, is derived from the examination of costs, in which the total expenditure on maintenance is debited as a separate item.
Advantage to the Owner-driver
In the case of an owner-driver, some of this expense will be avoided, because he himself will do much of the work in his own time and at no extra cost. I am at least going to assume that that is the case, and to that end will suggest a figure of ld. per mile for maintenance, instead of lid.
Now, as 1 have already pointed out, only the expenditure on fuel and oil and garage rent is required for the first few weeks of vehicle operation, also the operator's own takings of £5 per week as wages, which, it is assumed, he will need in any case to carry on his domestic affairs. Unless he has extremely bad luck with his vehicle, and assuming that he performs many maintenance operations himself, he will not need to spend anything more until the vehicle has covered 16,000. to 18,000 miles, round about which period it is anticipated that a new set of tyres will be required. Now, if he be running a matter of 800 miles per week, that means that he will have 20 weeks to go and will then have to finci'£85 for that set of tyres. In the meantime, he has not had to make any actual outlay on licence, insurance, interest on first cost, tyres, maintenance or depreciation. If, as I have so often recommended, he puts by each week the money which will in due time be needed to meet expenditure under those heads, he will have a reserve fund. It is of interest to see what that reserve fund will have amounted to by the end of the twentieth week, assuming that the vehicle is running 800 `miles per week. S.T.R.