Accounting Treatment of Bill of Exchange

Here we detail about the five heads for accounting treatment of bill of exchange, i.e., (I) On the Due Date, Bill is Honoured; (II) On the Due Date, Bill is Dishonoured; (III) Renewal of Bill; (IV) Retiring of Bill; and (V) Insolvency of Acceptor.

I. On The Due Date Bill Is Honoured:

The accounting treatment under this heading is based on the assumption that bill is duly honoured on maturity of the bill.

Keeping in view the significance of the bill, the drawer can treat the bill in the following ways:

(i) Bill is retained till the date of maturity

(ii) Bill is discounted from the bank

(iii) Endorsement of bill

(iv) Bill is sent for collection

Now we shall move to discuss the accounting treatment of bill transactions under all above cases.

(i) Bill is Retained Till the Date of Maturity:

The receiver may keep the bill till the date of maturity of the bill and bill is honoured. In this case, the acceptor (drawee) shall make the payment to the receiver (drawer).

The drawer and drawee will record the following journal entries in their respective books:

Transactions, Books of Drawer and Books of Drawee

Explanations of the Journal Entries (Using Modern Approach Only):

Transaction (i):

In the books of A, Sales is to be credited (being increase in revenue) and B’s A/c is to be debited (being increase in assets). In the books of B, Purchases is to be debited (being increase in expense) and A’s A/c is to be credited (being increase in liabilities)

Transaction (ii):

In the books of A, Bills Receivable A/c is to be debited (being increase in assets) and B’s A/c is to be credited (being decrease in assets). In the books of B, A’s A/c is to be debited (being decrease in liabilities) and Bills Payable A/c is to be credited (being increase in liabilities).

Transaction (iii):

In the books of A, Cash A/c is to be debited (being increase in assets) and Bills Receivable A/c is to be credited (being decrease in assets). In the books of B, Bills Payable A/c is to be debited (being decrease in liabilities) and Cash A/c is to be credited (being decrease in assets).

Illustration 1. (Calculation of maturity date)

Calculate the maturity date of the following Bills Receivables:

Calculation of maturity date

(ii) Bill is Discounted from the Bank:

Bank facilitates the customers to get their bill discounted from it. Banks deduct some amount as discount and pay the balance of the bill to the customers. In case of need of funds, customers opt for this facility and obtain the cash in respect of bill by discounting them. The amount of discount is the interest for lending the money to the customers before the maturity of the bill. The discount portion usually depends upon the prevailing rate of interest and the unexpired period of the bill.

Example

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The following journal entries shall be passed in the books of drawer and the drawee:

Transactions, Books of Drawer and Drawee

Explanations of the Journal Entries (Using Modern Approach Only):

Transaction (i):

In the books of A, Bank A/c is to be debited (being increase in assets), Discount A/c is to be debited (being an expense) and Bills Receivable A/c is to be credited (being decrease in assets). In the books of B, no entry shall be made for this transaction as B is not affected by this transaction.

Transaction (ii):

In the books of A, no entry shall be made as A has already received the payment. Now the payment shall be received by the Bank from the acceptor since the bill becomes the property of the bank. In the books of B, Bills Payable A/c is to be debited (being decrease in liabilities) and Bank A/c is to be credited (being decrease in assets). It is worth mentioning here that instead of cash, bank account should be credited in the books of drawee because in banking transaction bank deals with the respective Bank of Drawee.

Illustration 2. (Discounting the bill with the Bank) Rahul owes Rs. 50,000 to Anup. On 1st July, 2010, Anup received from Rahul Rs. 10,000 and an acceptance for Rs. 40,000 for 3 months. Anup got the bill and discounted at 12% per annum at his bank. On the due date, Rahul paid the required amount. Give journal entries in the books of Rahul and Anup.

Solution

(iii) Endorsement of Bill:

Signing and transferring the title of the bill is called endorsement. Bill of exchange is a negotiable instrument which means the amount is payable to the bearer of the instrument. Bearer of the bill means the person who is in possession of the bill legally. This feature makes the bill of exchange readily transferable. A bill can be transferred by the holder unless its transfer is restricted. By putting signatures at the back of the bill along with the name of party to whom it is to be transferred, the bill can be endorsed.

Types of Endorsement:

Bill can be endorsed in the following ways:

(i) Blank Endorsement:

In this type of endorsement, only signature of the transferor is required and the bill can be transferred by mere delivery.

The method of endorsement is as under:

Signed

Veer Singh”

(ii) Special Endorsement:

In this type of endorsement, the intention of the transferor is to transfer the bill to the a specific person or to transfer the bill on the order of that specific person. It is necessary to write the name of the party in whose favour the property rights of the bill are endorsed. If a bill is to be endorsed in favour of Ramesh & Co. by Sippy & Co; of the bill endorsement shall be shown as under on the back of the bill

“Pay Ramesh & Co. or on order”

Sippy & Co.

Official Signatory

(iii) Restricted Endorsement:

Endorsement in favour of a definite person only is known as restricted endorsement.

This is expressed as under:

“Pay Mehra Sons only”

Signed

Manohar Sons

(iv) Endorsement Sans Recourse (i.e. without recourse):

The endorsement which relieves the holder of the bill from any liability to all subsequent endorsees due to dishonour of bill is called endorsement sans recourse. In this case, the holder of the bill acts only in a representative capacity as agent and not as principal.

The endorsement is completed in the following way:

“Pay Jitender Kumar or order”

Signed

Noor Ali

Sans Recourse.

(v) Facultative Endorsement:

In this case, the endorser waives some of his rights to which he is entitled. The right which is given up is clearly stated. In the following manner, the endorsement gets effected;

“Pay Har Govind Parsad or order

Notice of dishonour waived”

Signed

Vishwas & Co.

In this way, the notice of dishonour, need not be given before demanding the payment from the endorser.

Effects of Endorsement:

(i) After endorsement, the person endorsing the bill is called ‘endorser’ and the person to whom the bill is endorsed is called ‘endorsee’.

(ii) The bill would become payable to the third party instead of original holder. However, during the term of the bill, the bill may be again endorsed to fourth person unless its endorsement is restricted.

(iii) In the case of unrestricted endorsement, business dues may be settled unrestrictedly.

The following journal entries shall be passed in the books of drawer, drawee and endorsee:

Transactions, Books of Drawer, Books of Drawee and Books of EndroseeExplanations of the Journal Entries (Using Modern Approach Only):

Transaction (i):

In the books of A, C’s A/c shall be debited (being decrease in liabilities), and Bills Receivable A/c is to be credited (being decrease in assets). In the books of B, no entry shall be made for this transaction as B is not affected by this transaction. In the books of C, Bills Receivable A/c is to be debited (being increase in assets) and A’s A/c shall be credited (being decrease in assets).

Transaction (ii):

In the books of A, no entry shall be passed as the bill has been transferred to C. In the books of B, Bills Payable A/c is to be debited (being decrease in liabilities) and Cash A/c is to be credited (being decrease in assets). In this case C (creditor) becomes the owner of the bill and will receive the payment on maturity. In the books of C, Cash A/c is to be debited (being increase in assets) and Bills Receivable A/c is to be credited (being decrease in assets).

Illustration 3. (Endorsement to third party)

Rohit sold goods to Ankit worth Rs 11,500. On 1st May, 2010, he drew on Ankit a bill for Rs 11,500 for 3 months. On 5th May, 2010 the bill was endorsed in favour of Shakul, who got the payment on maturity. Give journal entries in the books of Rohit, Ankit and Shakul.

Books of Rohit

Books of Ankit and Shakul

(iv) Bill Sent for Collection:

In the course of business, it may happen that business enterprises receive various bills on different occasions. But obviously the dates of the bills are different. Further, the maturity dates may vary according to the tenure of the bills. It may also happen that the various parties of the bill are located at different locations.

To overcome the burden of encashing all bills falling due on different dates and at different locations, banks may facilitates its customers to collect on behalf of them, the amounts due on various bills from the drawees of the bills in time.

In this case, the following journal entries shall be passed in the books of drawer and the drawee:

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Explanations of the Journal Entries (Using Modern Approach Only):

Transaction (i):

In the books of A, Bills Sent for Collection A/c is to be debited (being increase in assets) and Bills Receivable A/c is to be credited (being decrease in assets). In the books of B, no entry shall be passed as B is not affected by this transaction.

Transaction (ii):

In the books of A, Bank A/c is to be debited (being increase in assets) and Bills Sent for Collection A/c is to be credited (being decrease in assets). In the books of B, Bills Payable A/c is to be debited (being decrease in liabilities) and Cash/Bank A/c is to be credited (being decrease in assets).

Illustration 4. (Sending the bill for collection)

Surjit draws a bill on Garima for Rs 25,000 payable 3 months after 1st April, 2010. Immediately after its acceptance, Surjit sends the bill to his bank for collection. On due date, bank gets the payment. Make journal entries in the books of both the parties.

Books of Surjit and Garima

II. Dishonour of a Bill:

When the acceptor fails to meet his commitment on the date of maturity, the bill is said to have been dishonoured. Failure to meet the commitment means the acceptor could not pay the amount of the bill to the holder of the bill on its maturity.

Upon receiving the information about dishonour of the bill, the entries should be passed in such a way that the original entries passed in the books of drawer and drawee shall be reversed and the original position of creditor and debtor is restored between the drawer and the drawee. They are now again considered as creditor and debtor.

Accounting Treatment:

It may happen that on the date of maturity of the bill:

(i) Bill was lying with the drawer,

(ii) Bill was discounted from the bank

(iii) Bill was endorsed to the creditor

(iv)Bill was sent for collection

(v) Bill was pledged for obtaining the loan from the bank.

In all these circumstances, the following journal entries shall be passed:

Transactions, Books of Drawer, Books of Drawee and Books of Endorsee

Illustration 5. (Dishonour of bill)

Mohan Bhai sold goods for Rs 25,000 to Jamshedji on Jan. 1, 2010 and on the same date, drew a bill on Jamshedji at three months for the amount. This bill is duly accepted but is dishonoured on the due date. Pass Journal entries in the books of Mohan Bhai & Jamshedji.

Books of Mohan Bhai and Jamshedji


III. Renewal of the Bill:

Sometimes, the acceptor finds it difficult to meet the obligation of the bill on due date of the bill. To avoid dishonouring of the bill, he may request the drawer of the bill, to extend the maturity date. In that case, the drawer may cancel the old bill and draw a new bill, with new terms, on the drawee. This is known as renewal of the bill. In this case, noting of the bill is not required as the cancellation of the bill is mutually agreed upon by both the parties of the bill.

The drawer may demand the interest charges for the extended period. The interest may be included in the amount of a new bill or can be paid in cash. Sometimes, the acceptor of the bill requests for cancellation of the old bill, partly for a new bill and partly for cash. For example, a bill of Rs. 20,000 may be cancelled on cash payment of Rs. 12,000 and on acceptance of a new bill for the balance of Rs. 8,000 plus interest as agreed between both the parties of the bill.

Accounting Treatment:

For recording the entries in the books of both the parties, the entries shall be passed in two phases. In the first phase, an entry for cancellation of the old bill is to be passed in the books of both the parties of the bill. This entry would be the same as that of dishonour of bill. In the second phase, entries for interest and drawing and accepting a new bill shall be recorded in the books of the parties.

The following journal entries will be passed in the books of both the parties:

Transactions, Books of Drawer and Books of Drawee

Illustration 6. (Renewal of bill)

Pass the journal entries in each of the following alternative cares in the books of drawer and drawee:

Books of X and Y

Books of Y

IV. Retiring of Bill:

In case of sufficient funds, the acceptor of the bill may approach the drawer to accept the payment of the bill before due date of the bill. The intention of the drawee is either to utilize the surplus funds which otherwise would be lying idle or to withdraw the bill from further circulation.

If the holder of the bill agrees to the proposal of the acceptor, the bill is said to be retired. Sometimes, the holder of the bill inspires the acceptor of the bill for retiring the bill before the due date of the bill. In both the cases some discount is allowed to the acceptor which is known as ‘rebate’ and recorded in the books of both the parties as ‘Rebate on Bills A/c’.

The rebate allowed by the holder is an expense for him and gain for the acceptor. The amount of rebate shall be calculated as a fixed percentage and on the unexpired period only.

Accounting Treatment:

In the case of retiring a bill, the entries shall be passed in the same way as were passed in the case when bill was honoured on the due date of the bill. In addition to that ‘Rebate on Bill A/c’ is to be debited in the books of the holder (being an expense). Similarly, the acceptor of the bill shall credit the ‘Rebate on Bill A/c’ (being gain for him).

The following journal entries are passed in the books of both the parties:

Transaction, Books of Drawer and Books of Drawee

Illustration 7. (Retiring of bill)

Vijayshree retired her acceptance for Rs 1,10,000 by giving Rs 1,09,000 to Hari. Give the entries in the book of Hari.

Books of Hari

V. Insolvency of Acceptor:

Insolvent is the person whose assets are not sufficient to pay off his liabilities in full. In that case, the court appoints a legal person who is known as ‘Official Assignee’ or Official Receiver’. This person realizes all the assets of the acceptor of the bill and pays off to his creditors in proportion to their debts. The amount that could not be given to the holder shall be considered as ‘Bad Debts’ from the point of view of the holder and ‘Deficiency’ from the point of view of the acceptor of the bill.

Accounting Treatment:

In case of insolvency of the acceptor, the holder would get the proportionate amount of what is due from the bill. In this case, entries shall be recorded in the books of both the parties in two phases. In the first phase, entry for cancellation of the bill shall be passed in the books of both the parties. This entry shall be same as would be passed at the time of dishonouring of the bill. In the second phase, entry for recording the amount received (if any) and amount that could not receive, shall be recorded.

The journal entries for this in the books of debtor and creditor are as follows:

Transaction, Books of Drawer/ Creditor and Books of Drawee/ Debtor

 

Illustration 7. (Insolvency of Debtor)

On Jan. 1, 2010 R. Singh drew upon S. Singh for goods sold, a bill at 3 months for Rs 12,000. R Singh discounted the bill with his bankers, who charges Rs 200 for discount. On the due date, the bill was dishonoured and the bank paid Rs 50 for Noting charges. On April 10, S. Singh accepted a new bill for Rs 6,000 payable after 3 months and paid the balance in cash. On July 1, before the bill matured S. Singh was declared insolvent and a first and final dividend of 50 paise in a rupee was received from his private estate on 31s‘ July, 2010. Make Journal entries in the books of both R. Singh and S. Singh.

Books of R. Singh and S.SinghBooks of R. Singh and S.Singh

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