Accounting for Loan Payable


Accounting for loan payables, such as bank loans, involves taking account of receipt of loan, re-payment of loan principal and interest expense.

Receipt of Loan

Liability for loan is recognized once the amount is received from the lender.

Accounting entries for the receipt of loan are as follows:

DebitCash at Bank
CreditLoan Payable

Loan payables need to be classified under current or non-current liabilities depending on the maturity of loan re-payment. For example, if a loan is to be repaid in 3 years' time, the liability would be recognized under non-current liabilities. After 2 years, the liability will be re-classified under current liabilities, i.e. when the loan is due to be settled within one year.

Where loan is to be repaid in several installments, the current and non-current portions of the loan would need to be calculated using the loan repayment schedule (see example).

Interest Expense

Interest expense is calculated on the outstanding amount of loan during that period, i.e. the unpaid principal amount outstanding during the period. The outstanding amount of loan could change due to receipt of another loan installment or repayment of loan. Interest calculation needs to account for the changes in outstanding amount of loan during a period (see example).

Accounting entry for recording interest accrued is as follows:

DebitFinance Cost
CreditInterest Payable

Upon payment of interest, following accounting entry will be recorded:

DebitInterest Payable
CreditCash at Bank

Interest may be fixed for the entire period of loan or it may be variable. Floating interest, also known as variable interest, varies over the duration of the loan usually on the basis of an inter-bank borrowing rate such as LIBOR. Fixed interest rate does not vary over time but is more expensive than a floating interest rate.

Repayment of Loan

Repayments reduce the amount of loan payables recognized in financial statements.

Following accounting entry is used to account for the repayment of loan:

DebitLoan Payable
CreditCash at Bank

Example

ABC PLC received a bank loan of $100,000 on 1 January 20X1.

Terms of the loan agreement are as follows:

  • Loan is re-payable in 2 installments of $50,000 each on 30 June 20X2 and 30 June 20X3.
  • Interest is payable six-monthly in arrears at 5% plus LIBOR.
  • For the purpose of calculating interest, 6-month LIBOR at the start of each 6 month period will be used.

6-month LIBOR rates over the period of the loan were as follows:

1 January 20X17%
1 July 20X18%
1 January 20X29%
1 July 20X28%
1 January 20X310%

Assuming all liabilities were settled on the due date, calculate:

  1. Interest expense to be recognized in the income statements for the years ended 30 June 20X1, 30 June 20X2 and 30 June 20X3.
  2. Loan payables to be recognized in the balance sheets as at 30 June 20X1, 30 June 20X2 and 30 June 20X3.

Solution

Income Statement for the year ended (Extracts)
30 June 20X130 June 20X230 June 20X3
Finance Cost (Working 2)6,00013,5007,000


Statement of Financial Position as at (Extracts)
30 June 20X130 June 20X230 June 20X3
Non-Current Liabilities
Bank Loan (Working 3)50,000--
Current Liabilities
Bank Loan (Working 3)50,00050,000-


Working 1: Interest Rate

PeriodLIBORSpreadInterest Rate
ABA+B
1 January 20X1 - 30 June 20X17%5%12%
1 July 20X1 - 31 December 20X18%5%13%
1 January 20X2 - 30 June 20X29%5%14%
1 July 20X2 - 31 December 20X28%5%13%
1 January 20X3 - 30 June 20X310%5%15%


Working 2: Finance Cost

PeriodLoan Outstanding
A
Interest Rate
B
Finance Cost
(A x B) / 2 *
1 January 20X1 - 30 June 20X1100,00012%6,000
1 July 20X1 - 31 December 20X1100,00013%6,500
1 January 20X2 - 30 June 20X2100,00014%7,000
13,500
1 July 20X2 - 31 December 20X250,00013%3,250
1 January 20X3 - 30 June 20X350,00015%3,750
7,000

*Yearly interest payment has been divided by 2 to obtain the amount of half yearly interest payment.

Working 3: Loan Payable

PeriodLoan Outstanding
A
Current
B
Non-Current
A - B
1 January 20X1100,000-100,000
30 June 20X1100,00050,00050,000
30 June 20X250,00050,000-
30 June 20X3---