TL;DR
Hire purchase and finance lease are the two main forms of asset finance in the UK. Hire purchase transfers ownership at end of agreement; finance lease keeps ownership with the lender. HP attracts capital allowances including AIA up to £1m. Finance lease payments are deducted as operating expenses. For most SMEs buying long-lived plant, hire purchase gives better tax treatment.
Last reviewed: June 2026 | Sources: FCA Register, FLA, HMRC, legislation.gov.uk
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Key Facts UK asset finance market: £47.7bn (2024)HP approval rate: 96%AIA limit: £1,000,000WDA main pool: 18% per year |
What is hire purchase?
Hire purchase (HP) is an asset finance arrangement under which a business uses an asset immediately while making fixed monthly payments over an agreed term, typically two to seven years. Legal ownership transfers to the business when the final payment is made, often including a nominal option-to-purchase fee. Until that final payment, the lender retains legal title.
For tax purposes, hire purchase is treated as if the business owns the asset from day one. The business can therefore claim capital allowances including the Annual Investment Allowance (AIA) of up to £1 million per year or Writing Down Allowances (WDA) at 18 percent (main pool) or 6 percent (special rate pool). The Finance and Leasing Association reports that asset finance approval rates run at 96 percent, significantly higher than bank loans at 45 percent.
What is a finance lease?
A finance lease is an agreement under which a lender purchases an asset and leases it to a business for an agreed term. The lender retains legal ownership throughout. At the end of the primary lease period, the business may continue using the asset, or the asset may be sold with the business receiving a share of proceeds. Finance lease payments are treated as operating expenditure for tax purposes and are deductible from profits as paid.
What is an operating lease?
An operating lease covers a shorter term than the asset's full economic life. The lender bears the residual value risk. Operating leases are most common for vehicles and technology. Monthly payments are typically lower because the lender retains the residual value.
Hire Purchase vs Finance Lease vs Operating Lease
| Factor | Hire Purchase | Finance Lease | Operating Lease |
|---|---|---|---|
| Ownership at end | Transfers to business | Stays with lender | Stays with lender |
| Balance sheet | Asset + liability | Asset + liability (IFRS 16) | Usually off-balance sheet |
| Tax treatment | Capital allowances | Lease payments deductible | Lease payments deductible |
| AIA eligible | Yes | No | No |
| Typical term | 2-7 years | 2-7 years | 1-5 years |
| Best for | Long-lived assets to keep | Assets to upgrade at end | Short-term or fast-depreciating |
| VAT on asset | Upfront or spread | N/A (lender claims) | N/A (lender claims) |
Source: FLA, HMRC BIM47050, ICAEW. IFRS 16 changed lease accounting from 2019.
Tax treatment: hire purchase
Under hire purchase, the business is treated for tax as if it purchased the asset outright on the commencement date. Annual Investment Allowance (AIA) up to £1 million gives 100 percent first-year relief on qualifying plant and machinery. AIA cannot be claimed on cars. Writing Down Allowances at 18 percent per year (main pool) or 6 percent (special rate) apply where AIA is not available or exceeded. Finance charges (interest) on the HP agreement are deductible as a finance charge separately from the capital allowance.
Tax treatment: finance lease
Finance lease payments are deductible as operating expenditure under HMRC's rules at BIM47050. The lender claims the capital allowances as asset owner. For businesses under IFRS 16, most leases must be brought onto the balance sheet. For smaller businesses under FRS 102 or FRS 105, finance leases are capitalised; operating leases remain off-balance sheet.
VAT on hire purchase and finance leases
Under hire purchase, the full VAT on the asset value is charged upfront or spread with a VAT finance facility. Under a finance lease, VAT is charged on each rental payment as it falls due, which can improve cash flow for VAT-registered businesses. Businesses that cannot reclaim VAT (exempt sectors) typically prefer operating lease where the lender absorbs irrecoverable VAT in the rate.
When to Choose Hire Purchase vs Finance Lease
| Scenario | Better Option | Reason |
|---|---|---|
| Long-lived asset, keeping it | Hire Purchase | Capital allowances and ownership |
| Technology needing upgrades | Finance Lease | Return at end, upgrade |
| Van or light commercial vehicle | Hire Purchase | AIA available, ownership transfers |
| Exempt VAT business | Operating Lease | Lender absorbs irrecoverable VAT |
| Business wants off-balance sheet | Operating Lease | FRS 102 operating leases off balance sheet |
| Maximum first-year tax relief | Hire Purchase | AIA on full cost in year 1 |
Source: HMRC Capital Allowances Manual CA20000, BIM47050.
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Disclaimer This guide is for information only and does not constitute financial advice. Asset finance products vary by lender and business circumstances. Always verify lender details on the FCA Financial Services Register at register.fca.org.uk before applying. Kael Tripton Ltd is an independent editorial publisher and is not regulated by the FCA. |
Frequently asked questions
Is hire purchase the same as a finance lease?
No. The key difference is ownership. With hire purchase, legal ownership transfers to the business when the final payment is made. With a finance lease, the lender retains ownership throughout. This affects tax treatment: HP gives capital allowances including AIA; finance lease payments are deducted as operating expenses instead.
Can I claim AIA on a finance lease?
No. AIA can only be claimed by the asset owner. Under a finance lease, the lender owns the asset and claims the capital allowances, passing the benefit back through competitive lease rates. Under hire purchase, the business is treated as owner from day one and can claim AIA up to £1 million per year on qualifying plant and machinery.
Which is better for cash flow: hire purchase or finance lease?
Finance lease typically has lower monthly payments than hire purchase on the same asset because the lender retains the residual value at end of term. Operating leases have the lowest monthly payments. Hire purchase payments are higher but the business ends up owning the asset outright.
Does IFRS 16 affect my choice between HP and lease?
IFRS 16 (effective from 2019) requires most leases to be recognised on the balance sheet, removing a key advantage of finance leasing for larger businesses. For smaller businesses under FRS 102 or FRS 105, operating leases remain off-balance sheet, which is still an advantage for businesses managing debt covenants.
What happens at the end of a hire purchase agreement?
At the end of the hire purchase term, ownership transfers to the business, usually on payment of a nominal option-to-purchase fee. The asset is then fully owned by the business. Any proceeds from a subsequent sale may be subject to tax as a capital gain or trading income.
Can I switch from a finance lease to hire purchase mid-term?
Not typically. The two products have different legal and tax structures. Switching mid-term would require terminating the lease, which may incur early termination penalties, and entering a new agreement. Discuss this with your lender or broker before committing.
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Sources FLA: Asset Finance Statistics |
