Chapter 13 LTB

Question 1

Explain the two theories behind accounting of interest

Answer 1

1. Matching theory states that the interest expense incurred must be matched against the income earned from using the loan to operate the business in the same financial year
2. Accrual basis of accounting states that interest expense must be recorded in the financial year it was incurred, regardless of whether money has been paid

Question 2

Difference between bank loan and bank overdraft

Answer 2

-A bank loan is a fixed amount borrowed and cash is transferred to the business bank account

-A bank overdraft occurs when the business withdraws more than what it has deposited in the bank account, up to the limit which the business and the bank has agreed upon

-A bank loan is presented as long-term borrowings, under non-current liabilities in the statement of financial position

-A bank overdraft is presented as bank overdraft, under current liabilities in the statement of financial position

Question 3

How is bank loan repaid

Answer 3

The business makes regular cash payments in equal instalments over the loan period or a one-time lump-sum payment at the end of the loan period to reduce the principal sum

Question 4

How is bank overdraft repaid

Answer 4

The business deposits cash into the bank account within the year to reduce the overdraft