Car loans · HP Act 2026

Rule of 78 vs Reducing Balance: What the 2026 Hire Purchase Act Changes

Malaysia's Hire Purchase Amendment Act 2026 moves new car loans from Rule of 78 to reducing balance. Here is what actually changes — and why it matters most if you settle early.

If you have ever taken a car loan in Malaysia, your installment was almost certainly priced with a flat rate and your interest allocated using the Rule of 78. From 1 June 2026, that changes: the Hire Purchase Amendment Act 2026 moves new hire-purchase loans to reducing balance and forces banks to disclose the effective interest rate up front. This guide explains what the two methods are, why they produce the same monthly installment but very different early-settlement bills, and what the 2026 transition means for you.

Both methods quote the same installment

This trips almost everyone up, so it is worth stating plainly. In Malaysian hire purchase, the monthly installment is fixed by a simple convention: take the loan amount, multiply by the flat rate and the number of years to get total interest, add it to the principal, then divide evenly across every month of the tenure.

Financed: RM 100,000
Flat rate: 3% p.a.
Tenure: 9 years
Installment: RM 1,175.93

Total flat interest is RM 100,000 × 3% × 9 = RM 27,000. Total payable is RM 127,000, divided by 108 months gives RM 1,175.93 a month. That number is identical whether the bank books the loan under Rule of 78 or reducing balance. The methods do not change what you pay each month — they change how each payment is split between interest and principal, and therefore how much interest is “forgiven” if you clear the loan early.

What the Rule of 78 actually does

The Rule of 78 (named after the sum of the months in a one-year loan: 12 + 11 + … + 1 = 78) is a front-loading method. It weights interest by a descending sum-of-digits schedule, so the earliest months carry the most interest.

For a 108-month loan the weights run 108, 107, 106 … down to 1. They add up to 108 × 109 ÷ 2 = 5,886. Month one is charged 108 ÷ 5,886 of the total interest pool — about RM 495 of the RM 27,000. By the final year the monthly interest has dwindled to a few ringgit. You are still paying the same RM 1,175.93, but in the early years most of it is interest and very little reduces what you owe.

The practical consequence: after three years of a nine-year Rule of 78 loan, you have paid roughly a third of the installments but knocked far less than a third off your real debt. Roughly two-thirds of a nine-year loan’s total interest is booked in the first half of the tenure.

What reducing balance does instead

Reducing balance charges interest on what you still owe, not on the original amount. As the balance falls, the interest portion of each installment shrinks and the principal portion grows. This is the same math used for Malaysian home loans, and it is the international norm.

Because the installment is fixed by the flat-rate convention, our calculator works backwards: it solves for the monthly rate r that reproduces RM 1,175.93 on a standard amortization schedule. For this example that rate is about 0.4565% a month, or roughly 5.48% per annum — the effective interest rate (EIR). Month one interest is 100,000 × 0.4565% ≈ RM 456, noticeably less than the RM 495 the Rule of 78 charges for the very same month.

Where the two methods diverge: early settlement

If you keep the loan to full term, both methods cost you exactly the same RM 27,000 in interest. The difference only bites when you settle early — and most Malaysians do, whether to sell the car, refinance, or upgrade.

Under reducing balance, your settlement figure is simply the outstanding principal plus the current month’s interest. You stop paying future interest entirely, because that interest was never charged in advance.
Under Rule of 78, the law gives you a statutory rebate of unearned interest under the Hire Purchase Act 1967 — but it is a pro-rata formula, not a clean refund. Because interest was front-loaded, much of it is already considered “earned”, so the rebate returns only a fraction of what an intuitive balance calculation would suggest.

Settle a 108-month loan at month 36 and the gap is real money. The reducing-balance settlement lands around RM 72,400; the Rule of 78 settlement is several thousand ringgit higher for the identical loan. That gap is the true cost of the old method, and it is exactly why the 2026 reform targets it.

What changes on 1 June 2026

New loans use reducing balance. Any hire-purchase agreement signed on or after 1 June 2026 is priced on the outstanding balance, making early settlement fair.
EIR must be disclosed. Banks have to show the effective interest rate next to the advertised flat rate, so you can compare offers honestly. A 3% flat rate over nine years is about 5.5% EIR — now that number must appear in writing.
Digital signing is allowed. HP agreements can be concluded electronically.
Existing loans are not auto-converted. If you signed before 1 June 2026, your loan stays under Rule of 78. Banks have until 31 March 2027 to complete migration of legacy accounts.

What you should do

If you are buying before June 2026, model your loan under Rule of 78 and pay particular attention to the settlement figure if there is any chance you will sell or refinance. If you are buying after, you get reducing balance automatically — but still compare offers on EIR, not the headline flat rate, because tenure dramatically changes the true cost. The next guide, Flat Rate vs EIR, walks through exactly how to do that comparison.

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