INSTALLMENT PURCHASES

LEARNING OUTCOMES

By the end of this chapter, you should be able to

1. explain the meaning of instalment purchases

2. compute the interest rate charged on the original and reducing (constant ratio formula)
balance of credit
3. compute the terms involved in instalment purchases based on the original and reducing
(constant ratio formula) methods
4. compute the outstanding balance of the lender under the Rule of 78

INTRODUCTION

There are many types of loans offered by banks and financial institutions. For example,
discounted loan, flat rate loan and reducing balance loan.

Basic Term
total amount paid for an item at the time of
Cash price:
purchases
a cash price of an item plus all the other charges
Installment price:
for making the payment over the period of time.
Down payment/
a partial payment made at the time purchase
deposit:

General formulation (applicable for both types of interest)

i. Cash Balance/ balance/ loan = cash price – down payment
ii. Total Periodic Payment = cash balance + interest charged (or)
= installment price – down payment
iii. Periodic Payment = total periodic payment / number of repayment
iv. Interest = total periodic payment – cash balance
v. Installment Price = cash price + interest charges (or)
= down payment + total periodic payment

TYPE OF INTEREST 1: Flat rate loan (Original balance rate)

• Interest based on the cash balance (original balance).

• Interest is calculated based on the simple interest formula with cash balance being the
principal.
𝐼 = 𝑃𝑟𝑡
𝑆 =𝑃+𝐼
𝑆 = 𝑃(1 + 𝑟𝑡)

S = amount (total periodic payment), P = cash balance, r = interest rate charge, t = term of loan

TYPE OF INTEREST 2: Reducing balance rate

• Interest is charged based on the reducing principal balance (unpaid balance).

• Using constant ratio formula:

NMY14_UiTMSeremban3
 2𝑀𝐼
𝑟=
𝐵(𝑛 + 1)

where r = annual interest rate, I = total interest charges for the installment plan, B = cash
balance, n = total number of installments, M = 12 (months)/ 52 (weekly)

RULE OF 78 (or sum of digits method)

• Use to calculate the outstanding balance of any hire purchase agreement.

• Formula:
𝑁(𝑁 + 1)
𝐵 = 𝑅𝑁 − 𝐼 [ ]
𝑛(𝑛 + 1)

whereR = monthly payment, N = number of payments yet to be settled, I = total interest

charges, n = total number of payments. B = outstanding balance/ cash balance/ loan

Exercise 6

1. En Siraj is interested in buying a used van for his business operation needs. He is given with
two different options, Option A and Option B. The cash price of the van is RM56,800. Details
on the options are given below:

Option A Option B
Down payment RM6,800 RM4,800
3.5% based on flat 3% based on the
Interest rate
rate reducing balance
Period of the
3 years 3 years
loan

(i) Calculate the monthly installment of Option A and Option B, (ii) Determine which option is
better for him?
RM1534.72; RM1511.25
2. A diamond ring which is listed at RM2,000 cash can be purchased on an installment basis by
making a 20% down payment. The balance must be repaid through 18 monthly payments.
The buyer has the following three options to repay the balance.

Option Interest charged

A RM300
B 8% per annum based on original balance
C 10% per annum based on reducing balance

(i) Calculate the monthly payment for each option,

Option A = RM105.56
Option B = RM99.56
Option C = RM95.93
(ii) for option C, find the outstanding balance if a customer decides to settle the loan just
after the 8th payment using Rule of 78.
B=RM918.56
3. The cash price of a speed boat is RM60,000. Under an installment plan, a buyer may pay a
30% down payment followed by monthly payments for 5 years. If the interest is 6% on the

NMY14_UiTMSeremban3
 reducing balance, calculate (i) the amount of interest using the constant ratio formula, (ii) the
monthly payment, (iii) the installment price of the speed boat.
RM6405; RM806.75; RM66405
4. Linda bought a water treatment filter through an installment plan in which she paid RM2,000
as a down payment. She had to make 24 monthly payments of RM270 each to settle the
balance. If the interest charged was 4% per annum on the original balance, find the cash
price of the filter.
RM8000
5. Husaini receives a flyer that offers 3 options for a RM 47,500 car, with no down payment is
required at interest rate given below:

Option A 3.5% of simple interest for 5 years loan

Option B 4% of simple interest for 7 years loan
Option C 4.5% of simple interest for 9 years loan

(i) Calculate the simple amount for each option. (ii) Calculate the monthly payment for each
option.

6. Danny purchased a television at RMC based on installment scheme from Batik Sdn Bhd. He
paid RM200 as down payment. The shop charged him an interest rate of 3% per annum
based on reducing balance. He must pay RM200 per month for 2 years. If C is the cash
price, find C.
RM4854.55
7. Rahmat purchased a television at RMD based on installment scheme from Batik Sdn Bhd.
He paid RM150 as down payment. The shop charged him an interest rate of 3% per annum
based on original balance. He must pay RM200 per month for 2 years. If D is the cash
price, find D.
RM4678.30
8. The cash price of an acoustic drum set is RM2,500. On an installment plan, a 10% down
payment is required followed by monthly payments for 2 years. If the interest charged is 8%
on the reducing balance, find (i) the monthly payment, (ii) the total amount a customer will
eventually pay for a drum set, (iii) the outstanding balance if the loan is settled immediately
after the 10th payment by using the Rule of 78.
RM101.56; RM2687.50; RM1356.22
9. Ahmad bought a set of sofas and paid RM200 as a down payment. The balance was to be
paid by monthly payments of RM150 for two years. The interest rate was charged 10% per
annum based on the original balance. Find (i) the amount of the loan, (ii) the cash price, (iii)
the amount he must pay immediately after the 20th payment, if he decides to settle all the
outstanding debts. Use the Rule of 78.
RM3000; RM3200 ; RM580

NMY14_UiTMSeremban3