liabilities and notes payable

1. 1

2. Lectures: 4,5, 6, and
7
Chapter: 10
Liabilities
2

3. After studying this chapter , the students
should be able to learn the following:
• Define liabilities and distinguish current
liabilities and long term liabilities.
• Define current liabilities and types of current
liabilities. Accounting for Notes payable and
interest expense.
• Define types of long term liabilities. i.e.,
Bond payable, Installments notes/Mortgage
payable, Lease liabilities.
• Accounting for Bonds payable, Installments
notes/Mortgage payable, Lease liabilities.
3

4. Liabilities:
It is defined as debts or obligations of an
entity arising from past transactions or
events, the settlement of which will be made
in future date.
Types of liabilities:
Liabilities are broadly classified into two
groups:
1. Current liabilities
2. Long-term liabilities
4

5. 1. Current liabilities:
Those liabilities which are reasonably expected to
be paid/liquidated within a year or within the
operating cycle, whichever is longer. It is further
assumed that these debts will be paid from
current assets or through rendering of services or
sale of goods. They usually include short term
notes payable, accounts payable, wages
payable, current portions of long-term debts to be
paid within a year, accrued liabilities ( such
as, unearned revenue, interest payable, income
tax payable, etc).
We are all well familiar with all above current
liabilities, except short term notes payable. Thus
we will not discuss these above except short term
notes payable from current liabilities.
Continued on next page
5

6. Short term Notes payable:
Short term Notes payable are issued whenever bank
loans are obtained by a Company for a short period
of time, usually for within 12 months. Short term
Notes payable usually requires the borrower to pay
interest along with the principal.
The general entry at the time of borrowing will be as
under:
Cash xx
Notes payable xx
Onward interest expenses will be recorded at
financial year end and payment of interest and
principal will be made as per contract.
……. ……. 6

7. 2. Long term liabilities:
Those liabilities which are reasonably expected to
be paid/liquidated in more than one year. Long
term obligations usually arise from capital
expenditures, such as purchase of fixed assets on
account.
Usually following are long term liabilities:
1. Bond payable
2. Installments notes/Mortgage
payable
3. Lease liabilities
Continued on next page
7

8. 1). Bonds payable:
Bonds payable are recorded when a company issues
bonds to generate cash. As a bond issuer, the
company is a borrower. Thus bonds payable appear
on the liability side of company’s balance sheet.
Bond payable is a long-term promissory note that
promises to pay bondholder a predetermined, fixed
amount of interest periodically(Usually
semiannually), based on coupon rate until maturity
and at maturity date, the principal/par value will be
paid to the bondholder. Thus no principal amount
of bond will be paid to bond holder before its
maturity date.
Normally bonds are issued when a very large
amount of cash is needed by the company and for a
very long period of time usually for 10 years to
30 years. Continued on next page

9. The Bonds has the following features:
Face value or par value
It is the stated value of a bond. It is the amount of a bond
to be paid to the lender at the time of bond’s retirement
at maturity date.
Coupon rate
The stated rate of interest on a Bond is called the coupon
rate. This is the interest rate at which the borrower will
pay interest expense to the lender (holder of the Bond).
Maturity date
The date on which the Bond retires. On this date the
borrower has to repay the face value to the holder of the
bond.
Continued on next page
9

10. Accounting for Bonds issuance:
Bonds may be issued at face
value, or below the face value
(i.e. at a discount), or at above
the face value (i.e. at a premium).
Thus there may be three cases, as
under:
Continued on next page
10

11. Case #1:
Issuance of bonds at a face value:
It means that the bonds are issued by the company
(borrower) at a par value. Thus general entry
will be made at the time of issuance, as follows:
Cash ……………… 100,000
Bonds payable ……… 100,000
“To record issuance of bonds at par value”
Now interest expenses on each interest payment
date and accrued interest expenses at financial
year end will be recorded accordingly at given
coupon rate.
Continued on next page
11

12. Case #2:
Issuance of bonds at a discount value:
It means that the bonds are issued by the company (borrower)
below than the par value. Thus general entry will be made at
the time of issuance, as follows:
Cash …………………… 98,000
Discount on bonds payable ….. 2,000
Bonds payable ………………. 100,000
“To record issuance of bonds at a discount”
Now interest expenses on each interest payment date and
accrued interest expenses at financial year end will be
recorded accordingly at given coupon rate.
Moreover, discount on bonds payable will also be amortized
on each payment date and financial year end, based on
whole life of the bond. Thus amortization of discount on
bonds payable will be added in interest expenses calculated
by coupon rate on each payment and accrued date.
Continued on next page12

13. Case #3:
Issuance of bonds at a premium value:
It means that the bonds are issued by the company above than the
par value. Thus general entry will be made at the time of
issuance, as follows:
Cash …………………………… 102,000
Premium on bonds payable …….. 2,000
Bonds payable ………………… 100,000
“To record issuance of bonds at a premium“
Now interest expenses on each interest payment date and
accrued interest expenses at financial year end will be
recorded accordingly at given coupon rate.
Moreover, premium on bonds payable will also be
amortized on each payment date and financial year end,
based on whole life of the bond. Thus amortization of
premium on bonds payable will be subtracted in interest
expenses calculated by coupon rate on each payment and
accrued date.
……… ………..

14. 2). Installments notes/Mortgage payable:
Purchases of fixed assets are normally financed by
the issuance of installments Notes payable (Long
term Notes payable). Accounting for long-term
notes payable is similar to accounting for a short-
term notes payable except this is longer than one
year. The term requires the borrower to make equal
installment payments over the term of the loan.
These installments payments may be required to pay
monthly, quarterly, semi annually, or on yearly
basis. Each payment consists of (1) interest on the
unpaid balance of the loan, and (2) a reduction of
loan principle.
Total amount paid remains constant per period, the
interest decreases each period and the portion
applied to the loan principle increases.

15. The general entry at the time of borrowing will
be as under:
Cash xx
Installments Notes/Mortgage payable xx
The installment payment schedule is
made for the purpose to compute
constant payments along with the
break up in principal and interest
amount.
The installment payment schedule is
on next page
15

16. Period
(i.e.,
Month or
Quarter,
etc)
Payment
date
Installm
ent
payment
-Fixed
Rs
Interest
expense
payment
Rs
Principal
payment
Rs
Unpaid
principal
balance
at period
end Rs
16
The installment payment schedule:

17. Now on each payment date, the following
entry will be made:
Interest expense xx
Mortgage payable xx
Cash xx
“To record installment and interest payment”
Note; The figure will be taken from the
above Amortization schedule from the
respective period/ row.
……….. ………..
17

18. 3. Leases (IAS-17):
Lease is a contractual agreement between a
lessor (asset owner) and a lessee (asset renter
or tenant) that grants the lessee the right to use
the asset for a period of time in return for cash
(rent) payments.
The advantages of lease financing include the
lack of an immediate large cash payments and
deduction in income tax calculation due to
rental expenses.
For accounting purpose the lease financing is
classified into two groups:
•Operating leases.
• Financing lease or Capital lease.
Continued on next page

19. •Operating leases:
Operating leases are short term (or
cancellable) leases in which lessor
retains the risks and rewards of
ownership. Examples include most
cars and apartments rental agreements.
The lessee records such lease payments
as rental expenses and lesser records
them as rental revenue.
Continued on next page
19

20. *Thus general entry in lessee’s books at the
time of first payment will be:
Rental expense ……… xx
Cash ………………………… xx
“To record the lease rental payments”
*Thus general entry in lessor’s books at the
time of first receipt will be:
Cash ………………… xx
Rental revenue …… xx
“To record the lease rental receipt”
20

21. •Financing lease or Capital lease:
Capital leases are long term (or non cancellable)
leases by which the lessor transfers substantially all
risks and rewards of ownership to the lessee.
Examples include most Airplane, cars, buildings,
etc.
The lessee records the leased items as its own along
with a leased liability at the start of the leased term.
The amount recorded equals to the present value of
all lease payments. Onward each lease payments
made by the lessee are allocated between interest
expenses and reduction in leased liability. Similarly
lessor records them as leased sales along with
leased receivables. Onward each lease receipt in
lessor’s records is allocated between interest
revenue and reduction in leased Receivable.
Continued on next page

22. General entries in Lessee’s books:
The general entry at the time of agreement will be made
as under:
Lease asset- Building …………… xx
Leased liability ………………….. xx
“To record purchase of leased asset and leased
liability”
The general entry at time of each installment
payment will be made as under:
Interest expense ……………… xx
Lease liability ………………… xx
Cash ……………………………………… xx
Note: The figure of interest expense paid and lease
liability paid will be computed through the amortization
table. Similar to the Installment notes payable table
Continued on next page

23. General entries in Lessor’s books:
The general entry at the time of agreement will be made as
under:
Leased Receivable ………………… xx
Sales ……………………… xx
“To record sale on finance lease“
Cost of goods sold ………………… xx
Inventory ……………………………… xx
“To record of cost of goods sold of leased asset“
The general entry at the time of each installment receipt will be
made as under:
Cash ……………………… xx
Interest income …………… xx
Lease receivable …… xx
Note: The figure of interest income receipt and leased Receivable
receipt will be computed through the amortization table.
…….. …….

24. Presents by: Syed Zulfiqar jafar
{FCMA, FCIS, FPFA, M.Com}
…. The End ….