Adjustment of Interest on Loan in Final Accounts (Financial Statements)

A business usually takes loans from banks in order to make expenditures in their business. They also need to pay certain interest on this loan amount. If a business is unable to pay the interest on the loan in the same financial year, then this interest is called Outstanding Interest. The adjustments, in this case, are shown below:

Adjustment:

A. If Interest on Loan is given outside the trial balance:

In such case, two effects will take place:

• Firstly, Interest on the loan will be shown in the Dr. side of the Profit & Loss A/c, being an item of expense.
• It will be added to the Loan A/c in the Liabilities side of the Balance Sheet.

B. If Interest on Loan is given Inside the trial balance:

In such a case, Interest on the loan will only be shown in the Dr. side of the Profit & Loss A/c, being an expense of the business.

Illustration:

The following adjustments were noted:

• Interest on loan to be provided at 6% p.a.
• Interest on capital @ 5% to be provided.
• Interest on Drawings is to be charged at 10% p.a. These Drawings have been made at the beginning of the year.
• Salary to be provided to proprietor i.e. 5000.
• Interest on Bank Deposits is to be provided @ 4%.

Solution: