Wednesday, February 24, 2010

Deferred Interest on Dental Balance Sheet - What is It?

I'm trying to understand some Balance sheets and was wondering if someone could explain why the deferred interest on a lease I have is listed on my assets. Since deferred interest increases the amount I owe on the loan wouldn't it add to the liabilities side of my balance sheet?

Hopefully you understand debits and credits. If you're incurring interest expense and NOT paying it, yes, it increases the loan balance. That's the credit side of the entry. Since you haven't paid it and since you're a cash basis tax payer and can't deduct it, the debit would fall to the balance sheet. Seems weird, right?

Think of it like this: you owe the bank $10k in interest; however, they say "Keep it for now, you'll owe it to us.” So they increase what you owe by $10k. It’s almost like they "gave" you another $10k, but you didn't receive it in cash. So if you want to show what you really owe the bank you have to increase the loan by $10k, which increases the liability; however, for your "balance" sheet to balance, you have to increase assets by $10k. Since you didn't receive it in cash, you have to add another asset called deferred interest.

Don't make me explain that again.....

Thanks Tim, that actually did help a lot. And explaining accounting principles to me is no easy feat!

This first appeared on Dentaltown.

Send your questions to Tim Lott, CPA, CVA at tlott@dentalcpas.com

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4 comments:

rairmet said...

This makes sense. But when you finally pay off the note and the deferred interest, how do you get the deferred interest account off the books? When you pay of the balance of the note including deferred interest, it zeros out that liability account...but isn't the asset account still hanging around?

The Dental CPAs Team said...

So lets use my example, bank loaned you $100k originally & you owe $10k in interest which you haven’t paid, so the bank now says you owe $110k. so to make this adjustment on your balance sheet you increase the dent by $10k & create an asset of $10k. so the next day, the bank says pay up, right?

You cut a check for $110k, that’s a credit to cash & a debit to the loan account so it’s not $0. There’s still $10k sitting as an asset, right? You credit the asset to wipe it out to $0 & debit interest expense $10k to record the interest expense cause you paid interest, right?

Everything balances

rairmet said...

Yes, thank you.

So the asset account (the deferred expense) becomes an actual expense when you finally pay off the loan.

Is it possible to "expense" the asset account (somewhat like depreciation) before you actually pay off the entire balance of the loan?

We have some deferred interest on the books, and this coming tax year we will be showing some extra income that we would like to put more expenses against if possible.

The Dental CPAs Team said...

If you're a cash basis tax payor you can only deduct when paid. I suppose if you're reporting taxes on the accrual method you could "amortize" the interest over the life of the loan. You really need to speak to your CPA about this...