IMPAIRMENT OF LOAN

IMPAIRMENT OF LOAN RECEIVABLE IMPAIRMENT OF RECEIVABLE Borrower is experiencing financial difficulty. The amount of impairment should be recognized in Profit or loss. PFRS 9 paragraph 5.2.2 an entity shall assess at every end of reporting period whether there is objective evidence that a financial asset or group of financial assets is impaired. If such evidence exists, the entity shall determine and recognize the amount of any impairment loss. Use the ORIGINAL EFFECTIVE RATE Effective Interest rate at the time the loan originated, not the Effective Interest rate at the time of impairment. If Nominal Interest Rate = Effective Interest Rate If Nominal Interest Rate = Effective Interest Rate It should be specifically stated that the company accrued interest before adding it to the principal amount. In other words, add Accrued Interest if recorded by the company. On the other hand, accrued interest is excluded when the problem indicates that “the entity did not accrue interest during the year”. ILLUSTRATION: If Nominal Interest rate = Effective Interest rate PROBLEM: On January 01, 2024, Makapuno Co. granted Suman Co. a 4-year loan amounting to Php 2,500,000. The Nominal Interest Rate and Effective Rate are both 10%. The interest is collectible every end of the year. On December 31, 2025, Makapuno Co. assessed the loan that it is impaired. The Effective Interest on this date is 15%. Makapuno Co. accrued the interest on December 31, 2024, and the Php 2,500,000 will be collected on maturity date. SOLUTION: 2,750,000 2,066,000 jd 684,000 Makapuno Co. should have received 2,750,000 but because of impairment, the company will only receive 2,066,000, thus, there is a 684,000 impairment loss. The Accrued interest is computed as follows (2,500,000 x 10%). Had it been the company did not accrue interest, then no Php 250,000 will be added to the Principal amount, thus, the carrying amount will be Php 2,500,000 only. PV of Expected future cash flows (2,500,000 x 0.8264) = 2,066,000 This is the amount to be collected on maturity date. The 4-year loan starting January 01, 2024, will end on December 31, 2027. However, the loan was impaired on December 31, 2025, therefore, there’s a 2-year period remaining to collect the amount. (PV of 1 for 2 periods @ 10%). Be careful not to use the 15% New effective interest rate, instead, use the Old Effective interest rate of 10%. ILLUSTRATION: If Nominal Interest rate = Effective Interest rate PROBLEM: ABC Corporation gave DEF Corporation a loan of 10%, 4-year, Php 5,500,000 loan at the beginning of the year 2024. During December 31, 2024, DEF Corporation is having financial difficulty and was unable to pay the scheduled interest due. ABC Corporation assessed that the loan is impaired. Both Companies agreed that the principal amount will be paid in 4 equal instalments on December 31 for each year of 2025, 2026, 2027 and 2028. No interest will be charged. The prevailing interest rate on assessment date is 14%. SOLUTION: This is a loan receivable, only the Nominal Interest Rate was provided. Let’s try to compute if there is a premium or discount through interpolation. Let’s try 11% first. Notice that 11% Effective interest rate is not what we need because it is far more than the Initial Carrying Value of 5,165,765. This is a loan receivable, only the Nominal Interest Rate was provided. Let’s try to compute if there is a premium or discount through interpolation. Let’s try 12%. Notice that 12% Effective interest rate is what we need because it is equal with the Initial Carrying Value of 5,165,765. Since 12% Effective Interest Rate is greater than the 10% Nominal Interest Rate, the Loan is said to be DISCOUNTED. The 12% Rate is the Original Effective Interest Rate to be used if the loan receivable is impaired. What is the Carrying amount of the loan on December 31, 2024 before Impairment? The Carrying amount of the loan on December 31, 2024, is Php 5,235,657. This amount is the present value of the receivable at the date of impairment. What is the Carrying amount of the loan on December 31, 2024, for Impairment? The Interest collection during December 31, 2024 is 550,000 computed as (5,500,000 x 10%). This amount is recorded by the company and unpaid. What is the Present Value of Expected future cash flows? Use the Effective interest rate of 12% to compute for the Present Value Factor for each year. Ignore the new Effective interest rate 14% 5,500,000 divided by 4 years. The problem states that “both companies agreed that the principal amount will be paid in 4 equal instalments. Feel free to visit the discussion on how to compute and use present value in category of “notes receivable” of this accounting study notes. What is the Impairment Loss on Loans Receivable? ABC Corporation should receive Php 5,785,657 but because of impairment, the entity will only receive 4,176,425 resulting to Loss on Impairment of Php 1,609,232. Amortization Table after Impairment of the loans receivable Previous Present Value 4,176,425 Add Amortization discount: 501,171 Less Principal collection: 1,375,000 At the end of 2028, the Present Value of the loan Receivable should be zero because the entire principal is already collected. Use the Original Effective Interest Rate we computed through interpolation and ignore the 14% New Effective Interest Rate provided in the problem. The full amount of Interest Income is the amount of Amortization Discount because there is no Nominal Interest rate as stated in the problem (“No Interest will be charged”).