Unit II
Royalty Accounts
Royalty is the consideration received by an entity or individual who sells and uses the work to a third party. Royalty is usually considered synonymous with rent, but its concept and use are completely different.
However, the user of the property pays the owner for the use of the owner's property, both when acquiring a rental property or a book for publication. However, the usage fee is different from the rent paid by the user.
When rent is paid to use tangible assets such as buildings and machines, royalties are paid to use intangible assets or to take advantage of special rights such as patents, copyrights and mines.
In addition, the amount of rent paid by the user is fixed. On the other hand, the royalties that users pay to their owners depend on the quantity of goods produced or sold.
This article describes Royalty accounting, key terms related to royalties in final accounts, the treatment of Royalty accounting, and the types of royalties in accounting.
Meaning of royalties in accounting
Royalty is nothing more than a user of an asset paying the owner or creator of such an asset on a regular basis for its use. In other words, the owner / author of an asset such as mine, a patent, a book, a work of art, etc. may allow a third party, such as a licensee, publisher, to use the creation in exchange for consideration.
Therefore, such payments made by the user to the owner are known as royalties. In addition, the consideration paid instead of using the owner's assets is determined by the number of items produced or sold.
Royalty accounting parties
A person who creates or owns an asset and provides a third party with the right to use such asset is called a lessor or landlord. In addition, the lessor receives compensation from a third party for using the right to use his property.
Examples of lenders include mine or quarry owners, book authors, artists in the case of musical works, and so on.
2. Borrower
A lessee is a person who uses the property of the creator or owner instead of the consideration for using such property. Examples of borrowers include publishers, miners, and so on.
3. Account Royalty type
There are the following types of usage fees for accounting. These include:
4. Copyright
Copyright provides the creator or owner of assets such as books, artwork, and musical works with the right to claim royalties from publishers. Therefore, the publisher pays the author a copyright royalty based on the publisher's sales.
5. Patent royalties
The royalties are paid by the user to the owner based on the number of items produced.
6. Mining royalties
For mining royalties, the user or borrower pays royalties to the owner or lessor based on the output generated.
Therefore, in the case of patents or copyrights, the publisher pays royalties to the author based on the number of copies of the book sold. In other words, the patent or copyright owner receives royalties based on the number of items sold by the user.
In the mining industry, on the other hand, royalties are received by the mine owner based on the number of items the user produces.
An important term for Royalty accounting
Minimum rent
As mentioned above, the lessor contacts or agrees with the lessee on the payment of royalties. This royalty is based on the number of merchandises produced or the quantity of merchandise sold.
Currently, the number of products produced or sold may be zero or relatively small. In such cases, the lessor will receive no or little royalty that directly affects the lessor's royalty income.In other words, if there is no or little production or sale, the lessor will suffer a loss because the amount of royalties received from the lessee is no or less. This is despite the lessee using the asset.
To relieve this situation, the lessor requires the minimum amount to be paid by the lessee, regardless of the number of goods the lessee has produced or sold.
That is, the borrower must pay the lender a minimum amount. This is despite the fact that the actual royalty amount calculated based on the items produced or sold is less than the minimum rent paid.
Such a guaranteed minimum amount that the lessor receives is called the minimum rent. The minimum rent is set when the lessor signs a contract with the lessee.
This is the period included in the contract for the benefit of the landlord to guarantee the minimum rent even when sales and production are low. Therefore, the lessee pays the minimum rent or the actual royalty amount, whichever is higher.
The minimum rent paid is fixed and is also known as fixed rent or dead rent. However, this may vary depending on the terms and conditions of the agreement.
Example
For example, mine A produces 4,000 tonnes. The royalty paid by the borrower is 100 rupees per ton and the minimum contract rent is 5 rupees.
The actual royalty paid for each production is 4 rupees. The actual royalty amount is less than the minimum rent, so the lessee must pay the lessor a minimum rent of 5 rupees.
Short work or redeemable dead rent
Short-term work is nothing more than a minimum rent that exceeds actual royalties. In other words, short-term work is the difference between minimum rent and actual royalties.
In the above example, Short Workings would be Rs1 Lakh (5 Lakh – 4 Lakh). It should be noted that short-term work will only be revealed if the minimum rent clause is included in the contract.
Excessive work
Overwork is nothing more than an amount of actual royalties that exceeds the minimum rent.
For example, in the above example, the output produced is 6000 tonnes. Therefore, overwork is Rs 2 Lakhs (6 Lakh – 4 Lakh).
Recovery of short work
Contracts between lessors and lessees under royalty accounting typically provide for provisions. This provision allows you to carry forward a short task to adjust the same thing in the future.
Therefore, in the following year, Short Workings will be adjusted for excess royalties. Such a process of adjusting short-term working capital is known as short-term working capital recovery.
In other words, the royalty contract collection clause provides the borrower with the right to recover any excess payments the borrower has made to the lessor in order to comply with the minimum rent clause of the previous year.
In addition, the contract has a fixed term. Such a period defines the number of years a lessee can recover or recover short-term work. This period may be fixed or variable.
If the lessee fails to recover the short-term work within the specified time, the short-term work will expire and will be debited on the income statement for the period in which the collection has elapsed.
Fixed right
Fixed rights mean that the lessee can recover short-term work from the lessor within a certain period of time from the date of lease of the asset.
For example, according to fixed rights, lessees can recover short-term work within two years of the lease date. If he does not, the recovery will expire or end.
Fluctuating rights
Under variable rights, the lessee can recover short-term work for any period during the subsequent one or more periods. For example, the short work of the previous year can be recovered in the next year.
Strikes and lockouts
Strikes and lockouts may occur during the Royalty contract period. Therefore, Royalty contracts can provide for a proportional reduction in minimum rent in the event of a strike or lockout.
Royalty accounting
There are three types of situations in which both the lender and the borrower need to pass journals. Let's use an example to understand royalty accounting.
Royalty accounting example
Zen is the owner of Minea A in Gujarat. He has a royalty agreement with Kapoor Ltd. According to the contract, the minimum rent is Rs 5,00,000 and the royalty paid is Rs 100 per ton of monthly production. The output for the different years is:
2017 – 4000 tons
2018 – 5000 tons
2019 – 6000 tons
1. Royalty accounting journals in the debt book
Case I: When the minimum rent exceeds the actual royalty amount (2017)
1. Royalty date
Royalty A / c Dr 4,00,000
Short Working A / c Dr 1,00,000
To Zen A / c 5,00,000
(Zen royalty and short-term work)
2. Entry to make payment
Zen A / c Dr 5,00,000
To cash / bank A / c 5,00,000
(Paid to Zen in cash)
3. Year-end closing entry
P & L A / c Dr 5,00,000
Royalty A / c to 5,000,000
(Royalty transferred to P & L A / c)
Case II: If the minimum rent is equal to the actual royalty amount (2018)
1. Royalty date
Royalty A / c Dr 5,00,000
To Zen A / c 5,00,000
(Being a Zen royal family)
2. Entry to make payment
Zen A / c Dr 5,00,000
To cash / bank A / c 5,00,000
(Paid to Zen in cash)
3. Year-end closing entry
P & L A / c Dr 5,00,000
Royalty A / c to 5,000,000
(Royalty transferred to P & L A / c)
Case III: When the actual royalty amount exceeds the minimum rent and short-term work is recovered (2019)
1. Royalty date
Royalty A / c Dr 6,00,000
To Zen A / c 6,00,000
(Being a Zen royal family)
2. Entry to pay and get back work in a short period of time
Zen A / c Dr 6,00,000
To cash / bank A / c 5,00,000
Short-time work A / c To 1,00,000
(Paid to Zen in cash, Short Working Recouped)
3. Close the entry at the end of the year and do not get back to work in a short period of time
P & L A / c Dr 6,00,000
Royalty A / c to 5,000,000
To Short-time work A / c 1,00,000
(Royalty and short-term work will be transferred to P & L A / c)
According to the terms and conditions, short working can be collected in the year when the actual royalty exceeds the minimum rent. If the lessee fails to recover short-term work for a certain period of time, it will be irrevocable and will be charged to profit or loss in the year the short-term work recovery expires.
On the other hand, recoverable short-term work must be carried forward and displayed as current assets on the balance sheet.
2. Royalty accounting journals in the lessor's books
Case I: When the minimum rent exceeds the actual royalty amount (2017)
1. Royalty date
Kapoor Ltd 5,00,000
To Royalty A / c4,00,000
Short working A / c 1,00,000
(Royalty received from Kapoor Ltd and short-term work)
2. Entry to make payment
Cash / Bank A / c Dr 5,00,000
To Kapoor Ltd 5,000,000
(Receiving cash from Kapoor Ltd)
3. Year-end closing entry
Royalty A / c Dr 5,00,000
To P & L A / c 5,000,000
(Royalty credit to P & L A / c)
Case II: If the minimum rent is equal to the actual royalty amount (2018)
1. Royalty date
Kapoor Ltd 5,00,000
To Royalty A / c5,00,000
(Received royalties from Kapoor Ltd)
2. Entry to make payment
Cash / Bank A / c Dr 5,00,000
To Kapoor Ltd 5,000,000
(Receiving cash from Kapoor Ltd)
3. Year-end closing entry
Royalty A / c Dr 5,00,000
To P & L A / c 5,000,000
(Royalty credit to P & L A / c)
Case III: When the actual royalty amount exceeds the minimum rent and short-term work is recovered (2019)
1. Royalty date
Kapoor Ltd 6,00,000
To Royalty A / c6,00,000
(Received royalties from Kapoor Ltd)
2. Entry to pay and get back work in a short period of time
Cash / Bank A / c Dr 5,00,000
Short time work A / c Dr 1,00,000
To Kapoor Ltd 6,00,000
(Receiving cash from Kapoor Ltd and Short Working Recouped)
3. Close the entry at the end of the year and do not get back to work in a short period of time
Royalty A / c Dr 5,00,000
Short time work A / c Dr 1,00,000
To P & L A / c 6,00,000
(P & L A / c will be granted Royalty credits and Short Working will be transferred).
Key takeaways:
Meaning of Hire Purchase System
If you purchase a TV for cash, you pay, say, Rs.15,000. But if you wish to make the payment by installments of say, Rs.3, 000 each, every year, you may be required to pay four installments that is Rs.20, 000 in all. The extra amount of Rs.3,000 is for interest. If you choose the latter mode of the payment, you should debit Rs.5,000 to interest and treat the TV as valued at Rs.15,000 (and not at Rs.20,000). In case payment is to be made by installments, there may be two kinds of arrangements. Each installment may be treated as a ‘hire’ the purchaser becoming the owner only if he pays all the installments .In other words, property does not pass to him even if one installment remains unpaid. The seller will have the right to take away the goods in case of default in respect of any installment. This is known as ‘Hire Purchase’ system.
The other arrangement may be that property passes immediately on the signing of the contract. The seller will not have the right to repossess the goods in case an instalment is not paid. His right will be to sue the purchaser for the money due. This is known as the Instalment System.
Interest
Interest: In either case (hire purchase or installment) interest must be separated from the principal sum due. Since payments continue over two or more financial year’s interest must be calculated for each year separately. Usually information is available regarding cash price and the rate of interest. Calculation of interest then becomes easy. Just prepare the account of one of the parties on ordinary lines and charge interest on the balance due. Suppose on 1st January, 2000 A purchases from B machinery whose cash price is Rs.15,000; Rs.5,000 is to be paid down, that is on signing of the contract, and Rs.4,000 is to be paid at the end of each year for 3 years. Rate of interest is 10% p.a. If we prepare B’s account (on a memorandum basis) in A’s books, we shall know the interest for each year.
A’s Books
Dr. |
|
| B’s Account |
| Cr. |
|
| Rs. |
|
| Rs. |
2000 |
|
| 2000 |
|
|
Jan.1 | To Cash | 5,000 | Jan.1 | By Machinery A/c | 15,000 |
Dec.31 | To Cash | 4,000 | Dec.31 | By Interest A/c | 1,000 |
’’ | To balance c/d | 7,000 |
| (10% on Rs.10,000) |
|
|
| 16,000 |
|
| 16,000 |
2001 |
|
| 2001 |
|
|
Dec.31 | To Cash | 4,000 | Jan.1 | By Balance b/d | 7,000 |
| To Balance c/d | 3,700 | Dec.31 | By Interest A/c |
|
|
|
|
| (10% on Rs.7,000) | 700 |
|
| 7,700 |
|
| 7,700 |
2002 |
|
| 2002 |
|
|
Dec.31 | To Cash | 4,000 | Jan.1 | By Balance b/d | 3,700 |
|
|
| Dec.31 | By Interest A/c* | 300 |
|
| 4,000 |
|
| 4,000 |
* As it is the last year of installment, interest amount will be the difference between the outstanding balance and the actual amount of installment. [Students should note that if you calculate interest for the last year as per the given percentage on the O/S amount (3700 x 10%=370), total amount payable becomes (3700+370=4070) which is greater than the installment paid. So there will be again Rs. 70 payable even after the last installment being paid.]
If the rate of interest is not given, the interest for each year will be in proportion to amount outstanding in each year. In the example given above, the total sum payable is Rs.17,000 out of which Rs.5,000 is paid immediately. This leaves Rs.12,000 as outstanding throughout the first year at the end of which Rs.4,000 is paid. In the second year Rs.8,000 is outstanding and in the third year Rs.4,000 is due. The total interest is Rs.2,000. i.e., Rs.17,000. minus Rs.15,000. The interest should be apportioned over the 3 years in the ratio of amounts outstanding, that Rs.12,000; Rs.8,000 and Rs.4,000 or in the ratio of 3 : 2 :1. The interest for the first year is Rs.1,000 : for the second year it is Rs.670 and for the third year it is Rs.333. Note that the amount cannot be the same as worked out when the rate of interest isgiven.
To ascertain Cash Price, rate of interest and instalments being given. Sometimes the cash price is not given. Since the asset cannot be debited with more than the cash price, it must be ascertained. The process is to take the last year first and separate interest from principal out of the total sum due. In the example given above, Rs.4,000 is due at the end of 2002. The rate of interest is 10%. If in the beginning of 2001 Rs.100 was due, Rs.10 would be added making Rs.110 as due at the end of 2002. Thus, out of the sum due at the end of the year, one-eleventh is interest; rest is principal. We can proceed year by year like this.
Thus: —
| Rs. |
Amount due on 31-12-2001 | 4,000 |
Interest @ 1/11 | 364 |
Amount due on 1-1-2002 or 31-12-2001 | 3,636 |
Paid on 31-12-2001 | 4,000 |
Total amount due on 31-12-2001 | 7,636 |
Interest @ 1/11 | 694 |
Amount due on 1-1-96 or 31-12-2000 | 6,942 |
Paid on 31-12-2000 | 4,000 |
Total amount due on 31-12-2000 | 10,942 |
Interest @ 1/11 | 995 |
Amount due on 1-1-2000 | 9,947 |
Paid Cash down on 1-1-2000 | 5,000 |
Cash Price | 14,947 |
The interest for three years is Rs.995, Rs.694 and Rs.364 respectively. |
Entries in Book: Actual Cash Price Paid Method
This method follows a technical approach and does not treat the hire purchaser as owner until he makes the payment of last instalment. Under this method, the asset is recorded at the cash price actually paid.
* In the last year, the interest is equal to the difference between the amount due and the opening balance. It is not calculated in the usual way.
Journal Entries Under Actual Cash Price Paid Method
The various accounting entries in the books of the hire purchaser and hire vendor are shown below.
Journal Entries Under Actual Cash Price Paid Method
| Case | In the Books of Hire Purchaser |
| In the Books of Hire Vendor |
| Amount with which debited or credited |
| ||||||
A. | On making down payment due | Asset A/c To Hire Vendor’s A/c | Dr. | Hire Purchaser’s A/c To Hire Purchase Sales A/c | Dr. | (With the amount of down payment) |
B. | On making Down Payment | Hire Vendor’s A/c To Bank A/c | Dr. | Bank A/c To Hire Purchaser’s A/c | Dr. | (With the amount of down payment) |
C. | On making principal part of the instalment due | Asset A/c To Hire Vendor’s A/c | Dr. | Hire Purchaser’s A/c To Hire Purchase Sales A/c | Dr. | (With the amount of principal part of the instalment) |
D. | On making interest due on unpaid balance | Interest A/c To Hire Vendor’s A/c | Dr. | Hire Purchaser’s A/c To Interest A/c | Dr. | (With the interest due on unpaid balance) |
E. | On making payment of instalment | To Hire Vendor’s A/c To Bank A/c | Dr. | Bank A/c To Hire Purchaser’s A/c | Dr. | (With the amount of instalment) |
F. | On providing Depreciation | Depreciation A/c To Asset A/c | Dr. | No Entry |
| (With the amount of (depreciation) |
G. | On closure of Depreciation A/c | Profit & Loss A/c To Depreciation A/c | Dr. | No entry |
| (With the amount of depreciation) |
H. | On closure of Interest A/c | Profit & Loss A/c To Interest A/c | Dr. | Interest A/c To Profit & Loss A/c | Dr. | (With the amount of interests) |
Note: Depreciation is charged on full cash price of the asset and Interest is calculated on total outstanding balance.
Disclosure In Balance Sheet Under Actual Cash Price PaidMethod
At the end each accounting period, the relevant accounts appear in the Balance Sheet as shown below:
Disclosure In Balance Sheet Under Actual Cash Price Paid Method
Balance Sheet of Hire Purchaser |
| Balance Sheet of Hire Vendor | |||
Liabilities | Rs.Assets | Rs. | Liabilities | Rs.Assets | Rs. |
| Fixed Assets : |
|
|
| |
| Asset (at actual cash) |
|
| No disclosure is | |
| price paid) | xxx |
| required |
|
| Less : Depreciation till date | xxx |
|
|
|
|
| xxx |
|
|
|
|
|
|
|
|
|
Hire Purchase: Books of the vendor.
Books of the Vendor: The vendor follows no special method for recording sales on hire purchase, especially in case of sale of large items. He debits the purchaser with the cash price and credits him with the amount received. Every year the interest due is debited. We illustrate thisbelow.
Illustration-1
Based on particulars given below calculate Interest under the hire purchase system
(a) X & Co.—purchaser Y & Co.-Seller Date of purchase—Jan. 1,1999
cash price—Rs.74,500.
Installments Rs.20,000 on signing of the agreement. Rest in three instalments of Rs.20,000 each. Rate of Interest—5%. Depreciation 10% on the diminishing Balance.
(b) All particulars as above except that the rate of interest is notgiven.
(c) All particulars as in (a) above except that the cash price is notgiven.
Solution :
(a) Calculation of Interest | ||
|
| Rs. |
Jan.1, 1999 | Cash Price | 74,500 |
| Less-Cash down | 20,000 |
| Balance Due | 54,500 |
| Interest @ 5% for 1999 | 2,725 |
Dec.31, 1999 | Total | 57,225 |
| Amount paid | 20,000 |
Jan.1, 2000 | Balance Due | 37,225 |
| Interest for 2000 @ 5% | 1,861 |
Dec.31, 2000 | Total | 39,086 |
| Amount paid | 20,000 |
Jan.1,2001 | Balance due 2001 | 19,086 |
| Interest for (balancing figure) 2001 | 914 |
Jan.1,2002 | Amount paid | 20,000 |
(b) Calculation of interest when the rate of interest is not given:
Hire Purchase Price | 80,000 | ||||
Cash Price | 74,500 | ||||
Total interest | 5,500 | ||||
|
|
|
|
|
|
Year | Amount Outstanding | Ratio | Interest | Rs. | |
1 | 60,000 |
| 3 | 3/6 x 5,500 | 2,750 |
2 | 40,000 |
| 2 | 2/6 x 5,500 | 1,833 |
3 | 20,000 |
| 1 | 1/6 x 5,500 | 917 |
(c) Calculation of cash price, rate of interest being given:
Instalment | Amount due at the endof the year (after payment of Installment) | Instalment paid | Total amount due at the end of theYear (before payment of instalment) | Interest @ 1/21 | Principal due in thebeginning | |
| Rs. | Rs. |
| Rs. | Rs. | Rs. |
3 | Nil | 20,000 |
| 20,000 | 952 | 19,408 |
2 | 19,048 | 20,000 |
| 39,048 | 1,859 | 37,189 |
1 | 37,189 | 20,000 |
| 57,189 | 2,723 | 54,466 |
|
|
|
|
| 5,534 |
|
Cash Price: 54,466 + cash down, Rs.20,000 or Rs.74,466.
Illustration-2
Y & Co. sold machinery whose cash price is Rs.74,500. to X and Co., on hire purchase basis on 1st January, 2000. Payment was to be made as Rs.20,000 down and Rs.20,000 every year for three years. Rate of interest was 5%& Co. charged depreciation @ 10% p.a. on the diminishing balance. Give ledger accounts in the books of Y &Co.
Ledger of Y & Co. | |||||
Dr. |
|
| X & Co. |
| Cr. |
|
| Rs. |
|
| Rs. |
2000 |
|
| 2000 |
|
|
Jan.1 | To Sales | 74,500 | Jan.1 | By Cash | 20,000 |
Dec.31 | To Interest A/c |
| Dec.31 | By Cash | 20,000 |
| (5% on Rs.54,500) | 2,725 |
| By Balance c/d | 37,225 |
|
| 77,225 |
|
| 77,225 |
2001 |
|
| 2001 |
|
|
Jan.1 | To Balance b/d | 37,225 | Dec.31 | By Cash | 20,000 |
Dec.31 | To Interest A/c | 1,861 |
| By Balance c/d | 19,086 |
|
| 39,086 |
|
| 39,086 |
2002 |
|
| 2002 |
|
|
Jan.1 | To Balance b/d | 19,086 | Dec.31 | By Cash | 20,000 |
Dec.31 | To Interest A/c | 914 |
|
|
|
|
| 20,000 |
|
| 20,000 |
Dr. | Sales Account | Cr. | ||
|
| 2000 |
|
|
|
| Jan. 1 | By X & Co. | Rs. 15,000. |
Interest Account | ||||
Dr. |
|
|
| Cr. |
2000 |
| 2000 |
|
|
Dec.31 to P & L A/c | 2,725 | Dec.31 | By X & Co. | 2,725 |
2001 |
| 2001 |
|
|
Dec.31 to P & L A/c | 1,861 | Dec.31 | By X & Co. | 1,861 |
2002 |
| 2002 |
|
|
Dec.31 to P & L A/c | 914 | Dec.31 | By X & Co. | 914 |
4.6 Hire Purchase: Books ofPurchaser
Books of Purchaser First Method. The purchaser can also follow the system adopted by the vendor and make entries like ordinary purchase of an asset. Only, he should credit the vendor with interest due every year and debit him with cash as and when paid. The above given example can be worked out in the following way (ledger accounts.) :—
Dr. |
| Machinery account |
| Cr. | |
|
| Rs. |
|
| Rs. |
2000 |
|
| 2000 |
|
|
Jan.1 | To Y & Co. | 74,500 | Dec.31 | By Depreciation A/c | 7,450 |
|
|
|
| By Balance c/d | 67,050 |
|
| 74,500 |
|
| 74,500 |
2001 |
|
| 2001 |
|
|
Jan.1 | To Balance b/d | 67,050 | Dec.31 | By Depreciation A/c | 6,705 |
|
|
|
| By Balance c/d | 60,345 |
|
| 67,050 |
|
| 67,050 |
2002 |
|
| 2002 |
|
|
Jan.1 | To Balance b/d | 60,345 | Dec.31 | By Depreciation A/c | 6,035 |
|
|
|
| By Balance c/d | 54,310 |
|
| 60,345 |
|
| 60,345 |
2003 |
|
|
|
|
|
Jan.1 | To Balance b/d | 54,310 |
|
|
|
Y & Co. A/c | |||||
2000 |
| Rs. |
2000 |
| Rs. |
Jan.31 | To bank A/c | 20,000 | Jan.1 | By Machinery A/c | 74,500 |
Dec.31 | To Bank A/c | 20,000 | Dec.31 | By Interest A/c | 2,725 |
’’ | To Balance c/d | 37,225 |
|
|
|
|
| 77,225 |
|
| 77,225 |
2001 |
|
| 2001 |
|
|
Dec.31 | To Bank A/c | 20,000 | Jan.1 | By Balance b/d | 37,225 |
’’ | To balance c/d | 19,086 | Dec.31 | By Interest A/c | 1,861 |
|
| 39,086 |
|
| 39,086 |
2002 Dec.31 |
To Bank A/c |
20,000 | 2002 Jan.1 |
By Balance b/d |
19,086 |
|
|
| Dec.31 | By Interest A/c | 914 |
|
| 20,000 |
|
| 20,000 |
The student should prepare accounts relating to Interest and Depreciation.
Second Method - Under the second method, entries are passed only when payment is due or made. At this time, the vendor is credited with the amount due. Interest for the period is debited to interest Account and the balance (principal) is debited to the Asset Account. On payment, of course, the vendor is debited and Cash (or Bank) credited. The two entries are:
Depreciation has to be charged according to the cash price of theasset
We give below the journal entries and ledger accounts in the books of X & Co., the purchaser, in the example given above.
Journal of X & Co.
|
|
| Debit (Rs) | Credit (Rs) |
2000 |
|
|
|
|
Jan.1 | Machinery Account | Dr. | 20,000 | |
| To Y & Co. |
| 20,000 | |
| (Amount due to Y & Co. as down payment for purchase of machinery on hire purchase basis.) |
|
| |
|
|
|
| |
Jan.1 | Y & Co. | Dr. | 20,000 | |
| To Bank Account |
| 20,000 | |
| (Payment made to Y & Co. down) |
|
| |
|
|
|
| |
Dec.31 | Machinery Account | Dr. | 17,275 | |
| Interest Account | Dr. | 2,725 | |
| To Y & Co. |
| 20,000 | |
| (The amount due to Y & Co. under the hire purchase Contractfor interest (and debited as such) andthe balance treated as payment for machinery) |
|
| |
| ||||
Dec.31 | Y & Co. | Dr. | 20,000 | |
| To Bank A/c |
| 20,000 | |
| (Payment made to Y & Co.) |
|
| |
|
|
|
| |
Dec.31 | Depreciation Account | Dr. | 7,450 | |
| To Machinery Account |
| 7,450 | |
| (Depreciation for 1st year-10% on Rs.74,500) |
|
| |
|
|
|
| |
Dec 31 | Profit & Loss Account | Dr. | 10,175 | |
| To Interest Account |
| 2,725 | |
| To Depreciation Account |
| 7,450 | |
| (Being interest and depreciation transferred to P/L A/c) |
|
| |
2001 | ||||
Dec.31 | Machinery Account | Dr. | 18,139 | |
| Interest Account | Dr. | 1,861 | |
| To Y & Co. |
| 20,000 | |
| (Amount due to Y & Co. for interest the balance charged to Machinery A/c.) |
|
| |
| ||||
Dec.31 | Y & Co. | Dr. | 20,000 | |
| To Bank Account |
| 20,000 | |
| (Payment made to Y & Co.) |
|
| |
|
|
|
| |
Dec. 31 | Depreciation | Dr. | 6,705 | |
| To Machinery Account |
| 6,705 | |
| (Depreciation for the second year 10% on Rs.67,050; i.e. Rs.74,500 - Rs.7,450). |
|
| |
|
|
|
| |
Dec 31 | Profit & Loss Account | Dr. | 8,566 | |
| To Interest Account |
| 1,861 | |
| To Depreciation Account |
| 6,705 | |
| (Being interest and depreciation transferred to P/L A/c) |
|
| |
2002 | ||||
Dec.31 | Machinery Account | Dr. | 19,086 | |
| Interest Account | Dr. | 914 | |
| To Y & Co. |
| 20,000 | |
| (Amount due to Y & Co. in respect of interest and the principal sum.) |
|
| |
| ||||
Dec.31 | Y & Co. | Dr. | 20,000 | |
| To Bank Account |
| 20,000 | |
| (Payment made to Y & Co.) |
|
| |
|
|
|
| |
Dec.31 | Depreciation Account | Dr. | 6,035 | |
| To Machinery Account |
| 6,035 | |
| (Depreciation @ 10% of the diminishing balance charged for the third years). |
|
| |
|
|
|
| |
Dec 31 | Profit & Loss Account | Dr. | 6,949 | |
| To Interest Account |
| 914 | |
| To Depreciation Account |
| 6,035 | |
| (Being interest and depreciation transferred to P/L A/c) |
|
|
Ledger Accounts | |||||
Dr. |
| Machinery Account |
| Cr. | |
2000 |
| Rs. | 2000 |
| Rs. |
Jan.1 | To Y & Co. | 20,000 | Dec.31 | By Depreciation | 7,450 |
Dec.31 | To Y & Co. |
| Dec.31 | By Balance c/d | 29,825 |
| (20,000—2,725) | 17,275 |
|
|
|
|
| 37,275 |
|
| 37,275 |
2001 |
|
| 2001 |
|
|
Jan.1 | To balance b/d | 29,825 | Dec.31 | By Depreciation A/c | 6,705 |
Dec.31 | To Y & Co. |
| Dec.31 | By Balance c/d | 41,259 |
| (20,000—1,861) | 18,139 |
|
|
|
|
| 47,964 |
|
| 47,964 |
2002 |
|
| 2002 |
|
|
Jan.1 | To Balance b/d | 41,259 | Dec.31 | By Depreciation A/c | 6,035 |
Dec.31 | To Y & Co. | 19,086 | Dec.31 | By Balance c/d | 54,310 |
|
| 60,345 |
|
| 60,345 |
2003 |
|
|
|
|
|
Jan.1 | To Balance b/d | 54,310 |
|
|
|
Dr. |
| Interest Account | Cr. | ||
2000 |
| Rs. | 2000 |
| Rs. |
Dec.31 | To Y & Co. | 2,725 | Dec.31 | By P & L A/c | 2,725 |
2001 |
|
| 2001 |
|
|
Dec.31 | To Y & Co. | 1,861 | Dec.31 | By P & L A/c | 1,861 |
2002 |
|
| 2002 |
|
|
Dec.31 | To Y & Co. | 914 | Dec.31 | By P & L A/c | 914 |
Dr. |
|
| Y & Co. |
|
| Cr. |
2000 |
| Rs. |
| 2000 |
| Rs. |
Jan.1 | To Bank A/c | 20,000 | Jan.1 | By Machinery A/c | 20,000 | |
Dec.31 | To Bank A/c | 20,000 | Dec.31 | By Sundries— |
|
|
|
|
|
| Machinery | 17,275 |
|
|
|
|
| Interest | 2,725 | 20,000 |
|
| 40,000 |
|
| 40,000 | |
2001 |
|
| 2001 |
|
|
|
Dec.31 | To Bank A/c | 20,000 | Dec.31 | By Machinery A/c | 18,139 | |
|
|
|
| By Interest A/c | 1,861 | |
|
| 20,000 |
|
| 20,000 | |
2002 |
|
| 2002 |
|
| |
Dec.31 | To Bank A/c | 20,000 | Dec.31 | By Machinery A/c | 19,086 | |
|
|
|
| By Interest A/c | 914 | |
|
| 20,000 |
|
| 20,000 |
Depreciation Account
2000 |
| Rs. | 2000 |
| Rs. |
Dec.31 | To Machinery A/c | 7,450 | Dec.31 | By P & L A/c | 7,450 |
2001 |
| 2001 |
|
| |
Dec.31 | To machinery A/c | 6,705 | Dec.31 | By P & L A/c | 6,705 |
2002 |
| 2002 |
|
| |
Dec.31 | To Machinery A/c | 6,035 | Dec.31 | By P & L A/c | 6,035 |
Summary
Hire Purchase: Property does not pass to him even if one installment remains unpaid. The seller will have the right to take away the goods in case of default in respect of any installment. This is known as ‘Hire Purchase’ system. The other arrangement may be that property passes immediately on the signing of the contract. The seller will not have the right to repossess the goods in case an installment is not paid. His right will be to sue the purchaser for the money due. This is known as the Instalment System.
To ascertain Cash Price , rate of interest and installments being given. Sometimes the cash price is not given. Since the asset cannot be debited with more than the cash price, it must be ascertained. The process is to take the last year first and separate interest from principal out of the total sum due.
Entries in Books: Actual Cash Price Paid Method: This method follows a technical approach and does not treat the hire purchaser as owner until he makes the payment of last installment. Under this method, the asset is recorded at the cash price actually paid.
Books of the Vendor - The vendor follows no special method for recording sales on hire purchase, especially in case of sale of large items. He debits the purchaser with the cash price and credits him with the amount received. Every year the interest due is debited.
Books of Purchaser
-First Method. The purchaser can also follow the system adopted by the vendor and make entries like ordinary purchase of an asset. Only, he should credit the vendor with interest due every year and debit him with cash as and when paid. The above given example can be worked out in the following way (ledger accounts.) :—
-Second Method. Under the second method, entries are passed only when payment is due or made. At this time, the vendor is credited with the amount due. Interest for the period is debited to interest Account and the balance (principal) is debited to the Asset Account. On payment, of course, the vendor is debited and Cash (or Bank) credited.
Solved Examples
Q.1.(Cash Price, Rate of Interest and Amount of Installments are given)
Om Ltd. purchased a machine on hire purchase basis from Kumar Machinery Co. Ltd. on
the following terms:
You are required to calculate the total interest and interest included in cash instalment.
Solution:
Calculation of interest
| Total (Rs.) | Interest in each instalment (1) | Cash price in each instalment (2) |
Cash Price Less: Down Payment Balance due after down payment Interest/Cash Price of 1st instalment
Less: Cash price of 1st instalment Balance due after 1st instalment Interest/cash price of 2nd instalment
Less: Cash price of 2nd instalment Balance due after 2nd instalment Interest/Cash price of 3rd instalment
Less: Cash price of 3rd instalment Balance due after 3rd instalment Interest/Cash price of 4th instalment
Less: Cash price of 4th instalment Balance due after 4th instalment Interest/Cash price of 5th instalment
Less: Cash price of 5th instalment Total | 80,000 (21,622) 58,378 -
(9,562) 48,816 -
(10,518) 38,298 -
(11,570) 26,728
-
(12,728) 14,000 -
(14,000) Nil |
Nil
Rs. 58,378 x10/100 = Rs. 5,838
Rs. 48,816 x 10/100 = Rs. 4,882
Rs. 38,298x10/100 = Rs. 3,830
Rs. 26,728 x10/100 = Rs. 2,672
Rs. 14,000 x10/100 =Rs. 1,400
Rs. 18,622 |
Rs. 21,622
Rs. 15,400 – Rs. 5,838 = Rs. 9,562
Rs. 15,400 - Rs. 4,882 = Rs. 10,518
Rs. 15,400 - Rs. 3,830 = Rs. 11,570
Rs. 15,400 - Rs. 2,672 = Rs. 12,728
Rs. 15400 – Rs. 1,400 = 14,000
Rs. 80,000 |
Total interest can also be calculated as follow:
(Down payment + instalments) – Cash Price = Rs. [21,622+(15400 x 5)] – Rs. 80,000 = Rs. 18,622
Q.2.(Cash Price and Amount of Installments are given; Rate of Interest is not given)
Happy Valley Florists Ltd. acquired a delivery van on hire purchase on 01.04.2011 from Ganesh Enterprises. The terms were as follows:
Particulars | Amount (Rs.) |
Hire Purchase Price | 180,000 |
Down Payment | 30,000 |
1st installment payable after 1 year | 50,000 |
2nd installment after 2 years | 50,000 |
3rd installment after 3 years | 30,000 |
4th installment after 4 years | 20,000 |
Cash price of van Rs. 1,50,000. You are required to calculate Total Interest and Interest included in each instalment.
Solution: Calculation of total Interest and Interest included in each installment Hire Purchase Price (HPP) = Down Payment + instalments= 30,000 + 50,000 + 50,000 + 30,000 + 20,000 = 1,80,000
Total Interest = 1,80,000 – 1,50,000 = 30,000
Computation of IRR (considering two guessed rates of 6% and 12%)
Year | Cash Flow | DF @6% | PV | DF @12% | PV |
0 | 30,000 | 1.00 | 30,000 | 1.00 | 30,000 |
1 | 50,000 | 0.94 | 47,000 | 0.89 | 44,500 |
2 | 50,000 | 0.89 | 44,500 | 0.80 | 40,000 |
3 | 30,000 | 0.84 | 25,200 | 0.71 | 21,300 |
4 | 20,000 | 0.79 | 15,800 | 0.64 | 12,800 |
|
| NPV | 1,62,500 | NPV | 1,48,600 |
Interest rate implicit on lease is computed below by interpolation:
Interest rate implicit on lease= 6% + 1,62,500-1,50,000 x (12-6) = 11.39%
1,62,500-1,48,600
Thus, repayment schedule and interest would be as under:
Installment no. | Principal at beginning | Interest included in each installment | Gross amount | Installment | Principal at end |
Cash down | 1,50,000 |
| 1,50,000 | 30,000 | 1,20,000 |
1 | 1,20,000 | 13,668 | 1,33,668 | 50,000 | 83,668 |
2 | 83,668 | 9,530 | 93,198 | 50,000 | 43,198 |
3 | 43,198 | 4,920 | 48,118 | 30,000 | 18,118 |
4 | 18,118 | 2,064 | 20,182 | 20,000 | 182* |
|
| 30,182* |
|
|
|
* the difference is on account of approximations. |
On January 1, 2011 HP M/s acquired a Pick-up Van on hire purchase from FM M/s. The
terms of the contract were as follows:
(a) The cash price of the van was Rs. 1,00,000.
(b) Rs. 40,000 were to be paid on signing of the contract.
(c) The balance was to be paid in annual instalments of Rs. 20,000 plus interest.
(d) Interest chargeable on the outstanding balance was 6% p.a.
(e) Depreciation at 10% p.a. is to be written-off using the straight-line method.
You are required to:
(a) Give Journal Entries and show the relevant accounts in the books of HP M/s from January 1, 2011 to December 31, 2013; and
(b) Show the relevant items in the Balance Sheet of the purchaser as on December 31, 2011 to 2013.
Solution:
Journal Entries in the books of HP M/s
Date | Particulars | Dr. | Cr. | |
2011 |
| Rs. | Rs. | |
Jan. 31 | Pick-up Van A/c To FM M/S A/c (Being the purchase of a pick-up van on hire purchase from FM M/s) | Dr. | 1,00,000 |
|
|
|
| 1,00,000 | |
“ | FM M/S A/c To Bank A/c (Being the amount paid on signing the H.P. contract) | Dr. | 40,000 |
|
|
|
| 40,000 | |
Dec. 31 | Interest A/c To FM M/s A/c (Being the interest payable @ 6% on Rs. 60,000) | Dr. | 3,600 |
|
|
|
| 3,600 | |
“ | FM M/s A/c (Rs. 20,000+Rs. 3,600) To Bank A/c (Being the payment of 1st instalment along with interest) | Dr. | 23,600 |
|
|
|
| 23,600 | |
“ | Depreciation A/c To Pick-up Van A/c (Being the depreciation charged @ 10% p.a. on Rs. 1,00,000) | Dr. | 10,000 |
|
|
|
| 10,000 |
“ | Profit & Loss A/c To Depreciation A/c To Interest A/c (Being the depreciation and interest transferred to Profit and Loss Account) | Dr. | 13,600 |
|
|
|
| 10,000 3,600 | |
2012 Dec. 31 | Interest A/c To FM M/s A/c (Being the interest payable @ 6% on Rs. 40,000) | Dr. | 2,400 |
2,400 |
“ | FM M/s A/c (Rs. 20,000 + Rs. 2,400) To Bank A/c (Being the payment of 2nd instalment along with interest) | Dr. | 22,400 |
|
|
|
| 22,400 | |
“ | Depreciation A/c To Pick-up Van A/c (Being the depreciation charged @ 10% p.a.) | Dr. | 10,000 |
|
|
|
| 10,000 | |
“ | Profit & Loss A/c To Depreciation A/c To Interest A/c (Being the depreciation and interest charged to Profit and Loss Account) | Dr. | 12,400 |
|
|
|
| 10,000 2,400 | |
2013 Dec. 31 | Interest A/c To FM M/s A/c (Being the interest payable @ 6% on Rs. 20,000) | Dr. | 1,200 |
1,200 |
“ | FM M/s A/c (Rs. 20,000 + Rs. 1,200) To Bank A/c (Being the payment of final instalment along with interest) | Dr. | 21,200 |
|
|
|
| 21,200 | |
“ | Depreciation A/c To Pick-up Van A/c (Being the depreciation charged @ 10% p.a. on Rs. 1,00,000) | Dr. | 10,000 |
|
|
|
| 10,000 | |
“ | Profit & Loss A/c To Depreciation A/c To Interest A/c (Being the interest and depreciation charged to Profit and Loss Account) | Dr. | 11,200 |
|
|
|
| 10,000 1,200 |
Ledgers in the books of HP M/s
Pick-up Van Account
Date | Particulars | Rs. | Date | Particulars | Rs. |
1.1.2011 | To FM M/s A/c | 1,00,000 | 31.12.2011 | By Depreciation A/c | 10,000 |
|
|
| 31.12.2011 | By Balance c/d | 90,000 |
|
| 1,00,000 |
|
| 1,00,000 |
1.1.2012 | To Balance b/d | 90,000 | 31.12.2012 | By Depreciation A/c | 10,000 |
|
|
| 31.12.2012 | By Balance c/d | 80,000 |
|
| 90,000 |
|
| 90,000 |
1.1.2013 | To Balance b/d | 80,000 | 31.12.2013 | By Depreciation A/c | 10,000 |
|
|
| 31.12.2013 | By Balance c/d | 70,000 |
|
| 80,000 |
|
| 80,000 |
FM M/s Account
Date | Particulars | Rs. | Date | Particulars | Rs. |
1.1.2011 | To Bank A/c | 40,000 | 1.1.2011 | By Pick-up Van A/c | 1,00,000 |
31.12.2011 | To Bank A/c | 23,600 | 31.12.2011 | By Interest c/d | 3,600 |
31.12.2011 | To Balance c/d | 40,000 |
|
|
|
|
| 1,03,600 |
|
| 1,03,600 |
31.12.2012 | To Bank A/c | 22,400 | 1.1.2012 | By Balance b/d | 40,000 |
31.12.2012 | To Balance c/d | 20,000 | 31.12.2012 | By Interest A/c | 2,400 |
|
| 42,400 |
|
| 42,400 |
31.12.2013 | To Bank A/c | 21,200 | 1.1.2013 | By Balance b/d | 20,000 |
|
|
| 31.12.2013 | By Interest A/c | 1,200 |
|
| 21,200 |
|
| 21,200 |
Depreciation Account
Date | Particulars | Rs. | Date | Particulars | Rs. |
31.12.2011 | To Pick-up Van A/c | 10,000 | 31.12.2011 | By Profit & Loss A/c | 10,000 |
31.12.2012 | To Pick-up Van A/c | 10,000 | 31.12.2012 | By Profit & Loss A/c | 10,000 |
31.12.2013 | To Pick-up Van A/c | 10,000 | 31.12.2013 | By Profit & Loss A/c | 10,000 |
Interest Account
Date | Particulars | Rs. | Date | Particulars | Rs. |
31.12.2011 | To FM M/s A/c | 3,600 | 31.12.2011 | By Profit & Loss A/c | 3,600 |
31.12.2012 | To FM M/s A/c | 2,400 | 31.12.2012 | By Profit & Loss A/c | 2,400 |
31.12.2013 | To FM M/s A/c | 1,200 | 31.12.2013 | By Profit & Loss A/c | 1,200 |
Balance Sheet of HP M/s as at 31st December, 2011
Liabilities | Rs. | Assets | Rs. |
FM M/s | 40,000 | Pick-up Van | 90,000 |
Balance Sheet of HP M/s as at 31st December, 2012
Liabilities | Rs. | Assets | Rs. |
FM M/s | 20,000 | Pick-up Van | 80,000 |
Balance Sheet of HP M/s as at 31st December, 2013
Liabilities | Rs. | Assets | Rs. |
|
| Pick-up Van | 70,000 |
Q.3. 1st January, 2000 Mr. A purchases from Mr. B machinery whose cash price is Rs. 15,000; Rs. 5,000 is to be paid down, that is on signing of the contract, and Rs. 4,000 is to be paid at the end of each year for 3 years. Rate of interest is 10% p.a. Prepare B’s account in the books of Mr. A
Solution:
A’s Books
Dr. |
|
| B’s Account |
| Cr. |
|
| Rs. |
|
| Rs. |
2000 |
|
| 2000 |
|
|
Jan.1 | To Cash | 5,000 | Jan.1 | By Machinery A/c | 15,000 |
Dec.31 | To Cash | 4,000 | Dec.31 | By Interest A/c | 1,000 |
’’ | To balance c/d | 7,000 |
| (10% on Rs. 10,000) |
|
|
| 16,000 |
|
| 16,000 |
2001 |
|
| 2001 |
|
|
Dec.31 | To Cash | 4,000 | Jan.1 | By Balance b/d | 7,000 |
| To Balance c/d | 3,700 | Dec.31 | By Interest A/c |
|
|
|
|
| (10% on Rs. 7,000) | 700 |
|
| 7,700 |
|
| 7,700 |
2002 |
|
| 2002 |
|
|
Dec.31 | To Cash | 4,000 | Jan.1 | By Balance b/d | 3,700 |
|
|
| Dec.31 | By Interest A/c* | 300 |
|
| 4,000 |
|
| 4,000 |
Q.4. Based on particulars given below calculate Interest under the hire purchase system
X & Co.—purchaser Y & Co.-Seller Date of purchase—Jan. 1,1999, Cash price—Rs. 74,500.
Installments Rs. 20,000 on signing of the agreement. Rest in three instalments of Rs. 20,000 each. Rate of Interest —5%. Depreciation 10% on the diminishing Balance.
Solution:
Calculation of Interest | ||
|
| Rs. |
Jan.1, 1999 | Cash Price | 74,500 |
| Less-Cash down | 20,000 |
| Balance Due | 54,500 |
| Interest @ 5% for 1999 | 2,725 |
Dec.31, 1999 | Total | 57,225 |
| Amount paid | 20,000 |
Jan.1, 2000 | Balance Due | 37,225 |
| Interest for 2000 @ 5% | 1,861 |
Dec.31, 2000 | Total | 39,086 |
| Amount paid | 20,000 |
Jan.1,2001 | Balance due 2001 | 19,086 |
| Interest for (balancing figure) 2001 | 914 |
Jan.1,2002 | Amount paid | 20,000 |
Q.5. Based on particulars given below calculate Interest under the hire purchase system
X & Co.—purchaser Y & Co.-Seller Date of purchase—Jan. 1,1999, Cash price—Rs. 74,500.
Installments Rs. 20,000 on signing of the agreement. Rest in three instalments of Rs. 20,000 each. Depreciation 10% on the diminishing Balance.
Solution:
Calculation of interest when the rate of interest is not given:
Hire Purchase Price | 80,000 | ||||
Cash Price | 74,500 | ||||
Total interest | 5,500 | ||||
|
|
|
|
|
|
Year | Amount Outstanding | Ratio | Interest | Rs. | |
1 | 60,000 |
| 3 | 3/6 x 5,500 | 2,750 |
2 | 40,000 |
| 2 | 2/6 x 5,500 | 1,833 |
3 | 20,000 |
| 1 | 1/6 x 5,500 | 917 |
Q.6. Based on particulars given below calculate Interest under the hire purchase system
X & Co.—purchaser Y & Co.-Seller Date of purchase—Jan. 1,1999, Installments Rs. 20,000 on signing of the agreement. Rest in three instalments of Rs. 20,000 each. Rate of Interest—5%. Depreciation 10% on the diminishing Balance.
Solution:
Calculation of cash price, rate of interest being given:
Instalment | Amount due at the end of the year (after payment of Installment) | Instalment paid | Total amount due at the end of the Year (before payment of instalment) | Interest @ 1/21 | Principal due in the beginning | |
| Rs. | Rs. |
| Rs. | Rs. | Rs. |
3 | Nil | 20,000 |
| 20,000 | 952 | 19,408 |
2 | 19,048 | 20,000 |
| 39,048 | 1,859 | 37,189 |
1 | 37,189 | 20,000 |
| 57,189 | 2,723 | 54,466 |
|
|
|
|
| 5,534 |
|
Cash Price: 54,466 + cash down, Rs. 20,000 or Rs. 74,466.
Q.7. Y & Co. sold machinery whose cash price is Rs. 74,500. to X and Co., on hire purchase basis on 1st January, 2000. Payment was to be made as Rs. 20,000 down and Rs. 20,000 every year for three years. Rate of interest was 5% & Co. charged depreciation @ 10% p.a. on the diminishing balance. Give ledger accounts in the books of Y &Co.
Solution:
Ledger of Y & Co. | |||||
Dr. |
|
| X & Co. |
| Cr. |
|
| Rs. |
|
| Rs. |
2000 |
|
| 2000 |
|
|
Jan.1 | To Sales | 74,500 | Jan.1 | By Cash | 20,000 |
Dec.31 | To Interest A/c |
| Dec.31 | By Cash | 20,000 |
| (5% on Rs. 54,500) | 2,725 |
| By Balance c/d | 37,225 |
|
| 77,225 |
|
| 77,225 |
2001 |
|
| 2001 |
|
|
Jan.1 | To Balance b/d | 37,225 | Dec.31 | By Cash | 20,000 |
Dec.31 | To Interest A/c | 1,861 |
| By Balance c/d | 19,086 |
|
| 39,086 |
|
| 39,086 |
2002 |
|
| 2002 |
|
|
Jan.1 | To Balance b/d | 19,086 | Dec.31 | By Cash | 20,000 |
Dec.31 | To Interest A/c | 914 |
|
|
|
|
| 20,000 |
|
| 20,000 |
Dr. | Sales Account | Cr. | ||
|
| 2000 |
|
|
|
| Jan. 1 | By X & Co. | Rs. 15,000. |
Interest Account | ||||
Dr. |
|
|
| Cr. |
2000 |
| 2000 |
|
|
Dec.31 to P & L A/c | 2,725 | Dec.31 | By X & Co. | 2,725 |
2001 |
| 2001 |
|
|
Dec.31 to P & L A/c | 1,861 | Dec.31 | By X & Co. | 1,861 |
2002 |
| 2002 |
|
|
Dec.31 to P & L A/c | 914 | Dec.31 | By X & Co. | 914 |
Q.8. Y & Co. sold machinery whose cash price is Rs. 74,500. to X and Co., on hire purchase basis on 1st January, 2000. Payment was to be made as Rs. 20,000 down and Rs. 20,000 every year for three years. Rate of interest was 5% & Co. charged depreciation @ 10% p.a. on the diminishing balance. Give Journal Entries & ledger accounts in the books of X &Co.
Solution:
Journal of X & Co.
|
|
| Debit (Rs) | Credit (Rs) | |||||||
2000 |
|
|
|
| |||||||
Jan.1 | Machinery Account | Dr. | 20,000 | ||||||||
| To Y & Co. |
| 20,000 | ||||||||
| (Amount due to Y & Co. as down payment for purchase of machinery on hire purchase basis.) |
|
| ||||||||
|
|
|
| ||||||||
Jan.1 | Y & Co. | Dr. | 20,000 | ||||||||
| To Bank Account |
| 20,000 | ||||||||
| (Payment made to Y & Co. down) |
|
| ||||||||
|
|
|
| ||||||||
Dec.31 | Machinery Account | Dr. | 17,275 | ||||||||
| Interest Account | Dr. | 2,725 | ||||||||
| To Y & Co. |
| 20,000 | ||||||||
| (The amount due to Y & Co. under the hire purchase Contract for interest (and debited as such) and the balance treated as payment for machinery) |
|
| ||||||||
| |||||||||||
Dec.31 | Y & Co. | Dr. | 20,000 | ||||||||
| To Bank A/c |
| 20,000 | ||||||||
| (Payment made to Y & Co.) |
|
| ||||||||
|
|
|
| ||||||||
Dec.31 | Depreciation Account | Dr. | 7,450 | ||||||||
| To Machinery Account |
| 7,450 | ||||||||
| (Depreciation for 1st year-10% on Rs. 74,500) |
|
| ||||||||
|
|
|
| ||||||||
Dec 31 | Profit & Loss Account | Dr. | 10,175 | ||||||||
| To Interest Account |
| 2,725 | ||||||||
| To Depreciation Account |
| 7,450 | ||||||||
| (Being interest and depreciation transferred to P/L A/c) |
|
| ||||||||
2001 | |||||||||||
Dec.31 | Machinery Account | Dr. | 18,139 | ||||||||
| Interest Account | Dr. | 1,861 | ||||||||
| To Y & Co. |
| 20,000 | ||||||||
| (Amount due to Y & Co. for interest the balance charged to Machinery A/c.) |
|
| ||||||||
| |||||||||||
Dec.31 | Y & Co. | Dr. | 20,000 | ||||||||
| To Bank Account |
| 20,000 | ||||||||
| (Payment made to Y & Co.) |
|
| ||||||||
|
|
|
| ||||||||
Dec. 31 | Depreciation | Dr. | 6,705 | ||||||||
| To Machinery Account |
| 6,705 | ||||||||
| (Depreciation for the second year 10% on Rs. 67,050; i.e. Rs. 74,500 - Rs. 7,450). |
|
| ||||||||
|
|
|
| ||||||||
Dec 31 | Profit & Loss Account | Dr. | 8,566 | ||||||||
| To Interest Account |
| 1,861 | ||||||||
| To Depreciation Account |
| 6,705 | ||||||||
| (Being interest and depreciation transferred to P/L A/c) |
|
| ||||||||
2002 | |||||||||||
Dec.31 | Machinery Account | Dr. | 19,086 | ||||||||
| Interest Account | Dr. | 914 | ||||||||
| To Y & Co. |
| 20,000 | ||||||||
| (Amount due to Y & Co. in respect of interest and the principal sum.) |
|
| ||||||||
| |||||||||||
Dec.31 | Y & Co. | Dr. | 20,000 | ||||||||
| To Bank Account |
| 20,000 | ||||||||
| (Payment made to Y & Co.) |
|
| ||||||||
|
|
|
| ||||||||
Dec.31 | Depreciation Account | Dr. | 6,035 | ||||||||
| To Machinery Account |
| 6,035 | ||||||||
| (Depreciation @ 10% of the diminishing balance charged for the third years). |
|
| ||||||||
|
|
|
| ||||||||
Dec 31 | Profit & Loss Account | Dr. | 6,949 | ||||||||
| To Interest Account |
| 914 | ||||||||
| To Depreciation Account |
| 6,035 | ||||||||
| (Being interest and depreciation transferred to P/L A/c) |
|
| ||||||||
Ledger Accounts | |||||||||||
Dr. |
| Machinery Account |
| Cr. | |||||||
2000 |
| Rs. | 2000 |
| Rs. | ||||||
Jan.1 | To Y & Co. | 20,000 | Dec.31 | By Depreciation | 7,450 | ||||||
Dec.31 | To Y & Co. |
| Dec.31 | By Balance c/d | 29,825 | ||||||
| (20,000—2,725) | 17,275 |
|
|
| ||||||
|
| 37,275 |
|
| 37,275 | ||||||
2001 |
|
| 2001 |
|
| ||||||
Jan.1 | To balance b/d | 29,825 | Dec.31 | By Depreciation A/c | 6,705 | ||||||
Dec.31 | To Y & Co. |
| Dec.31 | By Balance c/d | 41,259 | ||||||
| (20,000—1,861) | 18,139 |
|
|
| ||||||
|
| 47,964 |
|
| 47,964 | ||||||
2002 |
|
| 2002 |
|
| ||||||
Jan.1 | To Balance b/d | 41,259 | Dec.31 | By Depreciation A/c | 6,035 | ||||||
Dec.31 | To Y & Co. | 19,086 | Dec.31 | By Balance c/d | 54,310 | ||||||
|
| 60,345 |
|
| 60,345 | ||||||
2003 |
|
|
|
|
| ||||||
Jan.1 | To Balance b/d | 54,310 |
|
|
| ||||||
Dr. |
| Interest Account | Cr. | ||
2000 |
| Rs. | 2000 |
| Rs. |
Dec.31 | To Y & Co. | 2,725 | Dec.31 | By P & L A/c | 2,725 |
2001 |
|
| 2001 |
|
|
Dec.31 | To Y & Co. | 1,861 | Dec.31 | By P & L A/c | 1,861 |
2002 |
|
| 2002 |
|
|
Dec.31 | To Y & Co. | 914 | Dec.31 | By P & L A/c | 914 |
Dr. |
|
| Y & Co. |
|
| Cr. |
2000 |
| Rs. |
| 2000 |
| Rs. |
Jan.1 | To Bank A/c | 20,000 | Jan.1 | By Machinery A/c | 20,000 | |
Dec.31 | To Bank A/c | 20,000 | Dec.31 | By Sundries— |
|
|
|
|
|
| Machinery | 17,275 |
|
|
|
|
| Interest | 2,725 | 20,000 |
|
| 40,000 |
|
| 40,000 | |
2001 |
|
| 2001 |
|
|
|
Dec.31 | To Bank A/c | 20,000 | Dec.31 | By Machinery A/c | 18,139 | |
|
|
|
| By Interest A/c | 1,861 | |
|
| 20,000 |
|
| 20,000 | |
2002 |
|
| 2002 |
|
| |
Dec.31 | To Bank A/c | 20,000 | Dec.31 | By Machinery A/c | 19,086 | |
|
|
|
| By Interest A/c | 914 | |
|
| 20,000 |
|
| 20,000 |
Depreciation Account
2000 |
| Rs. | 2000 |
| Rs. |
Dec.31 | To Machinery A/c | 7,450 | Dec.31 | By P & L A/c | 7,450 |
2001 |
| 2001 |
|
| |
Dec.31 | To machinery A/c | 6,705 | Dec.31 | By P & L A/c | 6,705 |
2002 |
| 2002 |
|
| |
Dec.31 | To Machinery A/c | 6,035 | Dec.31 | By P & L A/c | 6,035 |
Key takeaways:
References: