Universidad de Illinois en Urbana-Champaign

Formal Financial Accounting

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This course builds upon what you learned in Financial Accounting: Foundations and Financial Accounting: Advanced Topics and introduces you to formal foundations of financial accounting. The main purpose of the course is to familiarize you with technical terms in financial accounting, such as debit, credit and T-account. While knowledge on technical aspects of financial accounting is not necessary to understand and interpret financial statements, this knowledge is critical to be able to understand advanced topics in accounting. Formal Financial Accounting is a prerequisite course for the University of Illinois' iMSA program and the terminology we will cover will be used throughout the courses in iMSA program. The University of Illinois at Urbana-Champaign, consistently ranked as one of the nation's top three accounting programs, now offers a master’s in accounting at a very affordable tuition rate and is completely online. The iMSA is a full Master of Accountancy program and students graduate with a highly recognized master degree. Try an open course or two, then apply for admission into the credit-bearing version, as you may be eligible to take credit-bearing courses during the application process. If you are missing any prerequisites for the full degree, you can complete Coursera courses to demonstrate readiness and strengthen your application for the iMSA. For more information on this exciting online master's in accounting program, refer to this link: https://www.coursera.org/university-programs/imsa

De la lección

Module 3: Formal Financial Accounting for Liabilities and Shareholders’ Equity

The major sources of financing for many firms are liabilities and equity. Firms routinely finance their operations through various liabilities including accounts payables, bank loans, and bonds. They also raise funds from their investors through IPOs and SEOs. Finally, retained earnings (earnings earned but not distributed to investors) constitute a significant source of financing. Accounting for liabilities and shareholders’ equity will help you understand how formal financial accounting for liabilities and shareholders’ equity accounts are conducted.

Lesson 3.2: Long-Term Liabilities4:08

Conoce a los instructores

Oktay Urcan
Associate Professor of Accountancy
Department of Accountancy, College of Business

In lesson number two,

our focus will be on long-term liabilities.

Just to make sure that we are on the same page,

by long term liabilities I'm talking about payables that we are

supposed to pay in a time period more than one year.

Here is our first example under long-term liabilities.

Illini Toy Shop issues the following bond: face value of this bond is $3,000.

Coupon rate is 10 percent but it is going to be paid semi-annually, say every six months.

Issuance date of this bond is

January 1st 2017 and this bond will maybe maturing in seven years.

So basically we are going to borrow some money and

for this borrowing we are going to issue some bonds.

What is the account at the time that this bond is issued?

Well first of all, there will be a cash infusion of $3,000.

Therefore cash is going to be debited as $3,000.

What is the other side of this transaction?

It is going to be bond payable $3,000 credit,

so long term liability because this is a bond which has a life of seven years.

In the next example Illini Toy Shop makes the first coupon payment on July 1st 2017.

If you remember, coupon rate is 10 percent period.

What does this mean every year?

Illini Toy Shop pays 10 percent of the face value of $3000 to our bond investors.

If you want to make the first coupon payment,

and we know that coupon payments are paid semi-annually,

what is the 10 percent of $3000?

It is going to be $300.

So, per year Illini Toy Shop pays $300 to investors.

But since we are paying these coupons semi-annually,

every six months, in the first six months all we are going to pay is $150.

If you are going to pay this $150,

of course there will be a reduction from cash of 150,

so cash will be credit as 150.

Other side of this transaction is interest expense of $150.

Again, if you want a created expense account,

it is going to be debited.

Therefore $150 is debited to interest expense account.

And this cycle continues like this.

Every six months we pay 150$ and every six months we record and interest expense of 150$.

However, what happens at the last coupon payment?

Illini Toy Shop makes the final coupon payment and pays

back the bond on December 31st 2023.

Now it is time to pay back

both the final coupon payment as well as the original amount of borrowing of $3,000.

So what is the journal entry for this?

First of all, bond payable account will be removed.

Remember, we created a bond people account of $3,000 at the time that the bond is issued.

So if you want to get rid of this bond payable account,

there is a debit of $3,000 under bond payable.

That's fine.

Second, what is the cash outflow associated with this transaction?

So at the time of last coupon payment we actually pay two things.

First we pay the last coupon of $150

plus we also pay back our original borrowing of $3,000.

Therefore, cash outflow on this date is $3,150.

So if we step back and think what's going on so far.

There is a debit of $3,000.

There is a credit of 3,150.

It doesn't balance. So what is the balancing entry here?

It is going to be another interest expense of

$150 associated with the final coupon payment.

And if you look at the ledger accounts,

cash account is credited as 3,150.

Bond payable account is removed,

therefore bond payable is 3,000 debit.

And finally we create our final interest expense entry of $150 debit.