What is Installment Purchase? Definition of Installment Purchase, Installment Purchase Meaning and Concept
The purchase in installments in a transaction modality that allows to cancel the purchased product through disbursements distributed in different periods of time. These subscriptions are often called installments.
In other words, the purchase in installments allows you to extend the payment for a good or service for a period that can last months or years.
The objective of buying in installments is that the consumer does not make a single payment for a high amount, running out of cash.
Usually, users choose this modality to acquire durable goods or expensive services, such as trips abroad. In addition, it is usually done by credit card.
Another point to take into account is that each installment has two components: the principal of a loan (the part of the amount of the debt that is amortized) and the interest (financial cost for buying on credit).
Advantages and disadvantages of buying in installments
Among the advantages of buying in installments we have:
- It allows the customer to purchase expensive products or services without going undercapitalized in the short term.
- It increases the commercial movement, even if it means a certain risk of default for the seller.
- Many times it is the only way in which a person can access an expensive asset such as a home.
However, buying in installments also has disadvantages:
- It can dangerously incentivize consumerism in a certain sector of the population that is vulnerable to default. For example, if you lose your job.
- Higher financial costs are generated for the client. This, because, as we mentioned earlier, each installment includes interest. That is, not only is the sale amount distributed among the number of periods, but there is an additional cost for the value of money over time.
- Continuing with the previous point, the interest rate paid by the consumer can become very high, raising the cost of the product.
- The client feels satisfaction at the moment, but in the future we must take into account that he will have to bear the responsibility of canceling a debt, which can generate stress.
Purchase in installments and interest
As we have already mentioned, this method of payment normally involves the charge of interest. These will depend on the interest rate which, in turn, is determined based on the level of credit risk.
This means that the interest rate will be higher the higher the probability of default. This is defined based on different variables such as the debtor's credit history and the credit period (the shorter the financing term, the greater the possibility of repayment and vice versa).
Therefore, the consumer must take into account that, the shorter the time for which he will pay the fees, the lower the financial costs of the operation.