Home > Accounting Entries > Assets > Financial Assets > Loans
Definition:
Loans are financial assets where one party lends money to another counterparty for a period return. The person who lends recognises it as asset and the person who borrows accounts for it as a Borrowing (loan liability). PEriod return is called as interest and it computed based on the amount borrowed, the rate of interest and the period for which the loan was lent out.
Interest income is accounted as income in profit or loss. Interest is accrued over the period of time and is settled at a pre-determined periodic frequency. Until then, Accrued interest receivable is created and is accounted in Other Financial Assets or with the Loan Asset.
Mostly this kind of financial asset satisfies the SPPI test and is accounted on Amortised Cost basis. Any transaction costs incurred to lend or any processing fees received by lender is accounted as a component of interest income under Effective Interest Rate (EIR) method.
Accounting Entries:
Recognition of loan asset when money is lent:
Loan asset A/c DR
Cash/Bank A/c CR
Amount: Principal amount exchanged from lender to borrower.
Processing fees received by lender from borrower:
Cash/Bank A/c DR
Loan - Processing Fee Deferral A/c CR
Amount: Fee received on loan
Periodic accrual of interest income:
Accrued Interest Receivable A/c DR
Interest Income A/c CR
Amount: Interest income computed as at reporting date.
Interest accrual = Outstanding loan principal * Rate of Interest % * No of days from last payment date / Day count convention
Amortisation of processing fees as interest income:
Loan - Processing Fee Deferral A/c DR
Interest Income A/c CR
Amount: This amortisation can be computed on straight line basis or effective interest rate (EIR) method.
Receipt of accrued interest on settlement date:
Cash/Bank A/c DR
Accrued Interest Receivable CR
Amount: Payment received from borrower
Repayment of loan:
Cash/Bank A/c DR
Loan asset A/c CR
Amount: Payment received from borrower towards loan