How to account for Lending?

TribalMan_01

How would I account for lending someone money and how would I then record the loan repayment? This is usually from my personal account, but at times one also needs to lend money to a supplier or casual worker.

Dante_Bulluck

I suppose you'd make a withdrawal to your bank account and categorize it to a custom asset account for the loan. It's an asset since it's money you own, right? It just hasn't made it back to you yet.

Do you charge interest on those? I'm not confident about how you'd handle things if you did, but now I'm thinking about it.

TribalMan_01

Thank you for the answer! Luckily no interest is charged at the moment, so I don't have to worry about that just yet.

Alexia

Just butting in here, @TribalMan_01 and @Dante_Bulluck.

If it ever comes down to it, let me know! I'll be happy to help with that bit of bookkeeping!

StevenEd

Good Day,
I'd like to know the detailed steps to account for lending money (with interest) to an external party. Can you provide me with these steps?

Barsin

Hey there @StevenEd

So let me preface by saying I'm not an accountant but I'll do my best to give some advice. Here's hoping @Mikeg (our favorite community accountant) might give me some tips if my advice is incorrect:

1. Create an operating expense account in your chart of accounts. Call it 'Lending'.
2. Create an income account called 'Lending income'
3. In your transactions page, create an expense transaction and credit the expense account 'Lending'. (My example uses simple round numbers).
   
4. Create an income transaction and credit your income account 'Lending income'. Make sure it includes your interest rate here
   
5. Create a journal transaction More > Add journal transactions and debit your 'Lending Income' account, and credit your 'Lending Expense' account but only for the amount of the loan repayment minus the interest.
   
6. See your Account Balance report to check in on these accounts and see your expense being reduced by the journal payments, and the income being increased by the amount of the interest.

I hope this is the advice you were looking for! Again any accountants who wanted to chime in with some easier or simpler advice, this would be great

Mikeg

@StevenEd, @Barsin,
If you are lending money and charging interest (similar to a bank), the money you lend out is an asset to the business. You would debit a short or long term asset (depends on terms of loan) for the amount loaned and credit your cash account (assuming that is where it came from). When you receive interest payments you would debit Cash (your bank account) and credit Interest Income (Income account). When you receive repayment, debit Cash (your bank) and credit loan receivable (asset account). These are the entries (categorization) for cash basis accounting. A little different for accrual and additional layer of complexity if the loan repayments are based on an amortization schedule (like a mortgage). Hope that helps!

StevenEd

@Mikeg @Barsin
Much thanks to both of you. My country requires accrual accounting - the loans are based (at this time) on simple interest with scheduled fixed payments (and the option to make larger payments if the opportunity presents itself). Would it be possible to explain the difference that you mentioned for the accrual accounting.

Mikeg

@StevenEd,
Sure. Accrual is the principal of recording income when earned and expenses when incurred. Meaning that you do not recognize it when you actually receive cash or pay an expense. So let's walk through an example from start to finish.
You loan 10,000 for a term of 2 years with a 6% interest rate. The loan is paid back on the due date. Interest is due on the first of the month. Your entries or categorization would be as follows.
Creating loan
Debit Long Term Asset - Loan receivable 10,000 (long term because a 2 year term)
Credit Bank Cash account - Cash in bank 10,000
Recognizing Income
Debit Interest Receivable (short term asset) - 50
Credit Interest Income (Income) - 50
(Interest receivable is the same as Accounts Receivable since you are in the business of lending money. You can opt to use the invoicing feature of Wave. 10,000*6%=600/12=50. Principal multiplied by rate divided by number of months) This would be done monthly.
Receiving Payment for monthly interest
Debit Cash in bank 50
Credit Interest receivable 50
Getting principal back
Debit Cash in Bank - 10,000
Credit Loan Receivable - 10,000
You may need to adjust interest computations if principal payments are made in the interim.