Interest Expense Journal Entry Example

When the cash is received at a later time, an adjusting journal entry is made to record the cash receipt for the receivable account. An adjusting journal entry is usually made at the end of an accounting period to recognize an income or expense in the period that it is incurred. It is a result of accrual accounting and follows the matching and revenue recognition principles.

For example, XYZ Company purchased a computer on January 1, 2016, paying $30,000 upfront in cash and with a $75,000 note due on January 1, 2019. The promissory note has a 6-month maturity with a 10% interest in which the customer promise to pay the $10,000 amount with the $500 on January 1 which is at the end of note maturity. And we use the periodic inventory system to manage our merchandise inventory, in which December 31 is our period-end adjusting entry.

Accrued Interest Income Journal Entry

If you extend credit to a customer or issue a loan, you receive interest payments. When you accrue interest as a lender or borrower, you create a journal entry to reflect the interest amount that accrued during an accounting period. When the customer makes a payment regarding to the interest, the company will record cash received and reverse the interest receivable. The company is required to record interest income based on the loan, interest rate, and time coverage. It is required to record accrue before the cash is received from the customer.

• In short, the adjustments above reflect how the interest was not yet paid, which is why the “Interest Expense” account was debited, and the “Accrued Interest Payable” account was credited.
• To record the accrued interest over an accounting period, debit your Interest Expense account and credit your Accrued Interest Payable account.
• This is one of the most important accounts for a company, as it shows how much money the company has earned from the loan and other investments.

When it is definite that a certain amount cannot be collected, the previously recorded allowance for the doubtful account is removed, and a bad debt expense is recognized. The interest expense is the bond payable account multiplied by the interest rate. The payable is a temporary account that will be used because payments are due on January 1 of each year. And finally, there is a decrease in the bond payable account that represents the amortization of the premium. The 860,653 value means that this is a premium bond and the premium will be amortized over its life. Interest Payable is a liability account, shown on a company’s balance sheet, which represents the amount of interest expense that has accrued to date but has not been paid as of the date on the balance sheet.

Popular Double Entry Bookkeeping Examples

The present value can be calculated using MS Excel or a financial calculator. The bank’s adjusting entry will debit Accrued Interest Receivable for $50, and will credit Interest Revenue for $50. The company’s adjusting entry will debit Interest Expense for $50, and will credit Accrued Interest Payable for $50. There are two typical methods to count the number of days in a coupon payment period (T) and the days since the last coupon period (t). Accrued interest refers to interest generated on an outstanding debt during a period of time, but the payment has not yet been made or received by the borrower or lender. Your journal entry should increase your Interest Expense account through a debit of $27.40 and increase your Accrued Interest Payable account through a credit of $27.40.

The bank will transfer both principle and interest at the end of the term deposit. However, the company needs to record revenue based on the accrued basics. It means the revenue needs to record based on the earnings, not the cash flow from the bank. For deferred revenue, the cash received is usually reported with an unearned revenue account. Unearned revenue is a liability created to record the goods or services owed to customers.

Adjusting Entries

All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. It would not be correct to wait until the due date of 28 February to recognize the interest revenue earned through 31 December 2019. Suppose a company has raised $2 million in debt financing on June 15, 2022, roughly the mid-point of the month. Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years. Double Entry Bookkeeping is here to provide you with free online information to help you learn and understand bookkeeping and introductory accounting.

Loans and lines of credit accrue interest, which is a percentage on the principal amount of the loan or line of credit. The interest is a “fee” applied so that the lender can profit off extending the loan or credit. Whether you are the lender or the borrower, you must record accrued interest in your books.

For example, assume interest is payable on the 20th of each month, and the accounting period is the end of each calendar month. The month of April will require an accrual of 10 days of interest, from the 21st to the 30th. There are also many non-cash items in accrual accounting for which the value cannot be precisely determined by the cash earned or paid, and estimates need to be made. The entries for these estimates are also adjusting entries, i.e., impairment of non-current assets, depreciation expense and allowance for doubtful accounts. Likewise, if the company doesn’t record the above entry, both total expenses and liabilities will be understated. And later, when we make the interest payment, we will need to make another journal entry in order to eliminate the interest payable that we have recorded previously.

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Check with a tax advisor to see if there is a specific deduction for prepaid accrued interest. This must be prorated in order to determine the interest income for 9 months. Get instant access to video lessons taught by experienced investment bankers. Learn financial statement modeling, DCF, M&A, LBO, Comps and Excel shortcuts. Per the loan agreement, the first interest payment comes due in 30 days, i.e. By dividing the annual interest expense by the number of months in a year (12) we can calculate the monthly interest expense as approximately $8k.

On the interest payment date of May 15, 2020, the company ABC will pay the interest of $500 (50,000 x 1%) as in agreement. Chartered accountant Michael Brown is the founder and CEO of Double Entry Bookkeeping. He has worked as an accountant and consultant for more than 25 years and has built financial models for all types of industries.

The balance will be reversed when the bank paid interest on the maturity date. When we receive interest from fixed deposits, it means that we have earned money on our investment. The interest is paid out based on the amount of money we have invested and the length of time that we have been invested. This is because the longer we are invested, the more time the money grows. Additionally, the more money we invest, the more interest we will earn. Interest payable accounts also play a role in note payable situations.

Accrued Interest Journal Entry

Generally, adjusting journal entries are made for accruals and deferrals, as well as estimates. Sometimes, they are also used to correct accounting mistakes or adjust the estimates that were previously made. Interest payable amounts are usually current liabilities and may also be referred to as accrued normal balance interest. The interest accounts can be seen in multiple scenarios, such as for bond instruments, lease agreements between two parties, or any note payable liabilities. In this case, on April 30 adjusting entry, the company needs to account for interest expense that has incurred for 15 days.

The annual interest rate on the loan is 5%, which can be multiplied by the total loan amount to arrive at an annual interest expense of $100k. The term “accrued interest” refers to the total interest owed to a lender on a specified date. Accrued Interest represents an unfulfilled interest expense amount still owed by a borrower to a lender as of a particular date. This would violate the matching convention because no revenue would be recognized in 2019 and too much would be recognized in 2020. Starting with the borrower, we’ll go through the journal entries in their ledger as of June 30, 2022. The Note Payable account is then reduced to zero and paid out in cash.

Interest expense journal entry

When a company earns interest on its investments, that interest income is recorded on the income statement. This is one of the most important accounts for a company, as it shows how much money the company has earned from the loan and other investments. Cash increase of $ 10,000 represents the amount received from the borrower. Company record interest income $ 5,000 as the other half already record in June. The period covers both June and July, so the revenue needs to be separated too. At the end of the month, borrower needs to record interest portion which not yet been paid to the creditors.

• When the exact value of an item cannot be easily identified, accountants must make estimates, which are also considered adjusting journal entries.
• Interest income is the income received by the company as a result of lending money to the customer.
• The revenue recognition principle also determines that revenues and expenses must be recorded in the period when they are actually incurred.

They are also a useful way to save for specific goals, such as a down payment on a house or wedding. However, you will not be able to access your money until the end of the investment period, so make sure you do not need it in the meantime. This journal entry will eliminate the $50,000 note payable that we have recorded on July 1, 2021, as well as the $2,500 interest payable that we have recognized on December 31, 2021. Likewise, this journal entry will decrease both total assets and total liabilities on the balance sheet by $52,500 as of January 1, 2022. Later, when we make the cash payment for the interest, we can make another journal entry with the debit of the interest payable account and credit of the cash account to clear this liability. The use of accrued interest is based on the accrual method of accounting, which counts economic activity when it occurs, regardless of the receipt of payment.