Business entities may apply for loans or borrow money from third parties (usually financial institutions; sometimes in the form of short term loans or advances from owners, directors & etc.). THIS IS NOT A SOURCE OF REVENUE OR OTHER INCOME. This is because the principal sum borrowed is a liability (resource – money that you get from others temporarily and you need to pay the price for this – interest). Upon fulfilling the terms and conditions set and agreement reached between the borrowers and the lenders, the principal sum of the loan will be realeased to the borrowers. The double entry involved in the recording of the realease of the loan is as follows:- Balance Sheet Income Statement DR CR DR CR Cash at bank 24,000 Loan from XXX Bank 24,000 A decision need to be made as to whether the loan should be classified as current liability or non-current liability. This involves "splitting" the loan into the current portion and non-current portion in accordance with the repayment terms. Some business entities do not split the loan into current and non-current since it received the realease of the loan, nor during the financial year. The splitting of the loan into current and non-current portion is done ONLY as at the end of the financial year for proper financial statements presentation purposes. This is achieved by way of a reclassification journal entry once the current portion and non-current portion of the loan is calculated (this must be reflective of the position of the loan to the business entities as at the end of the financial year). Assume the $24,000 loan received from XXX Bank is repayable over 5 years with monthly principal repayment of $500 (the interest on loan is purposely omitted), and as at the end of the financial year, the balance of the loan is $19,500 (This means 9 installments of $500 have been repaid). The portion of the loan to be classified as current liability is $6,000 (i.e. the amount expected to be repaid over the next 12 months from the end of the financial year, $500 x 12 months). The non-current portion of the loan is therefore $13,500 ($19,500 - $6,000). Assume the Loan from XXX Bank was originally classified as a current liabilities account, the reclassification journal entry is:- Balance Sheet Income Statement DR CR DR CR Loan from XXX Bank (Current liabilities) 13,500 Loan from XXX Bank (Non-Current liabilities) 13,500 The financial period of ABC Co. Ltd. is from 1 January to 31 December. On 1 January 2006, ABC Co. Ltd receive $100,000 loan from Northern Bank upon approval of its application submitted earlier. Interest is charged at 7% per annum calculated monthly. Based on these terms, the repayment schedule is tabulated as follows:- The double entries to record the transactions during the year ended 31 December 2006 are as follows:- Balance Sheet Income Statement DR CR DR CR 1 January 2006 Cash at bank 100,000 Loan from Northern Bank 100,000 31 January 2006 Loan from Northern Bank 1,396.67 Interest expense 583.33 Cash at bank 1,980 (Please refer to instalment No. 1 of the repayment schedule) 28 February 2006 Loan from Northern Bank 1,404.81 Interest expense 575.19 Cash at bank 1,980 (Please refer to instalment No. 2 of the repayment schedule) 31 March 2006 Loan from Northern Bank 1,413.01 Interest expense 566.99 Cash at bank 1,980 (Please refer to instalment No. 3 of the repayment schedule) 30 April 2006 Loan from Northern Bank 1,421.25 Interest expense 558.75 Cash at bank 1,980 (Please refer to instalment No. 4 of the repayment schedule) 31 May 2006 Loan from Northern Bank 1,429.54 Interest expense 550.46 Cash at bank 1,980 (Please refer to instalment No. 5 of the repayment schedule) 30 June 2006 Loan from Northern Bank 1,437.88 Interest expense 542.12 Cash at bank 1,980 (Please refer to instalment No. 6 of the repayment schedule) 31 July 2006 Loan from Northern Bank 1,446.27 Interest expense 533.73 Cash at bank 1,980 (Please refer to instalment No. 7 of the repayment schedule) 31 August 2006 Loan from Northern Bank 1,454.71 Interest expense 525.29 Cash at bank 1,980 (Please refer to instalment No. 8 of the repayment schedule) 30 September 2006 Loan from Northern Bank 1,463.19 Interest expense 516.81 Cash at bank 1,980 (Please refer to instalment No. 9 of the repayment schedule) 31 October 2006 Loan from Northern Bank 1,471.73 Interest expense 508.27 Cash at bank 1,980 (Please refer to instalment No. 10 of the repayment schedule) 30 November 2006 Loan from Northern Bank 1,480.31 Interest expense 499.69 Cash at bank 1,980 (Please refer to instalment No. 11 of the repayment schedule) 31 December 2006 Loan from Northern Bank 1,488.95 Interest expense 491.05 Cash at bank 1,980 (Please refer to instalment No. 12 of the repayment schedule) The relevant "T" accounts shown below provide a clearer picture of the figures involved in respect of the release of loan and the repayments recorded during the year ended 31 December 2006:- ABC Co. Ltd General Ledger Loan From Northern Bank (Balance Sheet) DEBIT CREDIT Date Descriptions Folio $ Date Descriptions Folio $ 2006 2006 31-Jan Cash at bank 1,396.67 01-Jan Cash at bank 100,000.00 28-Feb Cash at bank 1,404.81 31-Mar Cash at bank 1,413.01 30-Apr Cash at bank 1,421.25 31-May Cash at bank 1,429.54 30-Jun Cash at bank 1,437.88 31-Jul Cash at bank 1,446.27 31-Aug Cash at bank 1,454.71 30-Sep Cash at bank 1,463.19 31-Oct Cash at bank 1,471.73 30-Nov Cash at bank 1,480.31 31-Dec Cash at bank 1,488.95 31-Dec Balance C/F 82,691.68 100,000.00 100,000.00 Cash at bank (Balance Sheet) DEBIT CREDIT Date Descriptions Folio $ Date Descriptions Folio $ 2006 2006 01-Jan Balance B/F 5,467.98 31-Jan Loan from Northern Bank 1,396.67 01-Jan Cash at bank 100,000.00 31-Jan Interest expense 583.33 28-Feb Loan from Northern Bank 1,404.81 28-Feb Interest expense 575.19 31-Mar Loan from Northern Bank 1,413.01 31-Mar Interest expense 566.99 30-Apr Loan from Northern Bank 1,421.25 30-Apr Interest expense 558.75 31-May Loan from Northern Bank 1,429.54 31-May Interest expense 550.46 30-Jun Loan from Northern Bank 1,437.88 30-Jun Interest expense 542.12 31-Jul Loan from Northern Bank 1,446.27 31-Jul Interest expense 533.73 31-Aug Loan from Northern Bank 1,454.71 31-Aug Interest expense 525.29 30-Sep Loan from Northern Bank 1,463.19 30-Sep Interest expense 516.81 31-Oct Loan from Northern Bank 1,471.73 31-Oct Interest expense 508.27 30-Nov Loan from Northern Bank 1,480.31 30-Nov Interest expense 499.69 31-Dec Loan from Northern Bank 1,488.95 31-Dec Interest expense 491.05 31-Dec Balance C/F 81,707.98 105,467.98 105,467.98 Interest expense (income statement) DEBIT CREDIT Date Descriptions Folio $ Date Descriptions Folio $ 2006 2006 31-Jan Interest expense 583.33 31-Dec To income statement 6,451.68 28-Feb Interest expense 575.19 31-Mar Interest expense 566.99 30-Apr Interest expense 558.75 31-May Interest expense 550.46 30-Jun Interest expense 542.12 31-Jul Interest expense 533.73 31-Aug Interest expense 525.29 30-Sep Interest expense 516.81 31-Oct Interest expense 508.27 30-Nov Interest expense 499.69 31-Dec Interest expense 491.05 6,451.68 6,451.68 Before the income statement and balance sheet of ABC Co. Ltd. are finalized, a reclassification journal entry is required to present correctly the current portion and non-current portion of the Loan from Northern Bank. From the "T" account shown above, the outstanding amount of Loan from Northern Bank as at 31 December 2006 was $82,691.68 (31-Dec Balance C/F). From the loan repayment schedule, the principal sum expected to be repaid in Year 2 is $18,559.53. This is the portion of the loan expected to be repaid within 12 months from the year end i.e. 31 December 2006 and therefore should be presented as a current liabilities item. The non-current portion of the loan is calculated as follows:- Principal sum outstanding as at 31 December 2006 82,691.68 Principal sum expected to be repaid in the next 12 months (18,559.53) Principal sum expected to be repaid after the next 12 months 64,132.15 Assume the Loan from Northern Bank was originally classified as a current liabilities account, the following reclassification journal entry is required to reflect correctly the current portion and the non-current portion of the loan on the balance sheet:- Balance Sheet Income Statement DR CR DR CR Loan from Northern Bank (Current liabilities) 64,132.15 Loan from Northern Bank (Non-Current liabilities) 64,132.15 The income statement and balance sheet of ABC Co. Ltd. after the above transactions being recorded in the respective accounts and also the impact of the $64,132.15 reclassification journal entry are as follows: - Income Statement and Balance Sheet of ABC Co. Ltd. Income Statement for the year ended 31 December 2006 BEFORE Adjustment AFTER DR CR $ $ Sales 109,270.00 109,270.00 Cost of Sales - 40,875.00 - 40,875.00 Gross profit 68,395.00 68,395.00 Other income: - Rental income 12,000.00 12,000.00 Operating expenses: - Accountancy fee - 800.00 - 800.00 Depreciation of property, plant and equipment - 4,400.00 - 4,400.00 Donation - 500.00 - 500.00 Electricity & water - 3,340.00 - 3,340.00 Interest expense - 6,451.68 - 6,451.68 Printing & stationery - 1,697.00 - 1,697.00 Rental of premises - 12,000.00 - 12,000.00 Salaries - 27,865.00 - 27,865.00 Upkeep of office - 3,547.00 - 3,547.00 Telephone charges - 1,285.00 - 1,285.00 Travelling, petrol & toll charges - 2,648.00 - 2,648.00 - 64,533.68 - 64,533.68 Net profit for the year 15,861.32 15,861.32 Retained profits B/F 27,654.00 27,654.00 Retained profits C/F 43,515.32 43,515.32 Balance Sheet as at 31 December 2006 $ $ Non-current assets Property, plant and equipment 19,600.00 19,600.00 Current assets Inventories 5,000.00 5,000.00 Trade receivables 32,807.00 32,807.00 Other receivables, deposits & prepayments: Rental receivable 3,000.00 3,000.00 Rental deposit 3,000.00 3,000.00 Utility deposit 500.00 500.00 Cash and bank balances 105,467.98 105,467.98 149,774.98 149,774.98 Current liabilities Trade payables - 3,588.00 - 3,588.00 Other payables and accruals - 24,579.98 - 24,579.98 Loan from Northern Bank - 82,691.68 64,132.15 - 18,559.53 - 110,859.66 - 43,139.51 Net current assets 38,915.32 106,635.47 58,515.32 126,235.47 Financed by: - Share capital 15,000.00 15,000.00 Retained profits 43,515.32 43,515.32 58,515.32 58,515.32 Non-current Liabilities Loan from Northern Bank - 64,132.15 64,132.15 58,515.32 122,647.47 
Assume ABC Co. Ltd. pays the installments on time
Sunday 27 January 2008
Various Types of Transactions – Part 5, Disbursement or Release of Principal Sum of Loans or Borrowings from Third Parties
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