CHAPTER 7

LOAN RECEIVABLE
Definition
A loan receivable is a financial asset arising from a
loan granted by a bank or other financial institution to a
borrower or a client.
The term of the loan may be short-term but in most
cases, the repayment periods cover several years.

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Initial measurement of the
Loan Receivable
At initial recognition, an entity shall measure a loan receivable at
fair value plus transaction cost directly that are directly attributable to the
acquisition cost of the financial asset.
The fair value of the loan receivable at initial recognition is normally
the transaction price, meaning, the amount of the loan granted.
Transaction cost that are directly attributable to the loan receivable
includes direct origination cost.
Direct origination cost should be included on the initial
measurement of the loan receivable.
However, indirect origination cost should be treated as outright
expense
Subsequent Measurement
of Loan Receivable
PFRS 9, paragraph 4.1.2, provides that if a
business model in managing financial asset is to
collect contractual cash flows on specified dates
and the contractual cash flows are solely payments
of principal and interest, the financial asset shall be
measured at amortized cost.
Accordingly, a loan receivable is measured at
amortized cost using the effective interest method
Meaning of
Amortized Cost
The amortized cost is the amount at which the loan
receivable is measured initially:
a. Minus principal repayment
b. Plus or minus cumulative amortization of any
difference between the initial carrying amount and the
principal amount
c. Minus reduction for impairment or uncollectibility

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Meaning of
Amortized Cost
In other words, if the initial amount
recognized is lower than the principal
amount, the amortization of the difference
is added to the carrying amount.
If the initial amount recognized is
higher than the principal amount, the
amortization of the difference is deducted
from the carrying amount.
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Origination Fees
Lending activities usually preceded the
actual funds and generally include efforts to
identify and attract potential borrowers and
to originate loan.
The fees charged by the bank against
the borrowers for creation of the loan is
known as “origination fees”.
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Origination Fees
Origination fees include compensation for the following
activities:
a. Evaluating the borrower’s financial condition
b. Evaluating guarantees, collateral and other security
c. Negotiating the terms of the loan
d. Preparing processing the documents related to the loan
e. Closing and approving the loan transaction

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Accounting for Origination Fees
The origination fees received from the borrower are
recognized as unearned interest income and amortized over the
term of the loan.
If the origination fees are not chargeable against the
borrower, the fees are known as “direct origination cost”.
The direct origination cost are deferred and also amortized
over the term of the loan.
Preferably, the direct origination cost are offset directly
against any unearned origination fees received.

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Accounting for Origination Fees
If the origination fees exceed the direct origination cost, the
difference is unearned interest income and the amortization will
increase interest income.
If direct origination cost exceed the origination fees received,
the difference is charged to “direct origination cost” and the
amortization will decrease interest income.
Accordingly, the origination fees received and the direct
origination cost are included in the measurement of the loan
receivable.

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Illustration
Global Bank granted loan to a borrower on January 1, 2019. The interest is on the loan is
12% payable annually starting December 31, 2019. The loan matures in three years on
December 31, 2021.

Principal Amount 5,000,000

Origination Fees received
from the borrower 331,800
Direct Origination costs incurred 100,000

Initial carrying amount of the loan

Principal amount 6,000,000
Origination fees received ( 331,800)
Direct originaton costs incurred 100,000
Initial carrying amount of loan 4,768,200 11
Journal entries on
January 1, 2019
1. To record the loan:
Loan receivable 5,000,000
Cash 5,000,000
2. To record the origination fees received from the borrower
Cash 331,800
Unearned interest income 331,800
3. To record the direct origination costs incurred by the bank
Unearned interest income 100,000
Cash 100,000

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Accounting for Origination Fees
Thus, the unearned interest income has credit balance of
P231,800 to be amortized over the term of the loan using the
effective interest method.
Because of the origination fees received and the direct
origination costs, a new effective rate must be computed.
Since the initial carrying amount of the loan receivable of
P4,768,200 is lower than the principal amount, it means there is a
discount and therefore the effective rate must be higher than the
nominal rate of 12%.
After considering the origination fee received from the
borrower and the direct origination cost, the effective interest rate
is determined to be 14%. 13
 Amortization table -
effective interest method
Date Interest Interest Amortization Carrying
received income amount
Jan. 1, 2019 4,768,200
Dec. 31, 2019 600,000 667,548 67,548 4,835,748
Dec. 31, 2019 600,000 677,005 77,005 4,912,753
Dec. 31, 2019 600,000 687,247 87,247 5,000,000

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 Effective interest method
Interest received = Principal times nominal rate
Interest income = Carrying amount times effective rate

December 31, 2019

Interest received (5, 000, 000 × 12%) 600,000
Interest income (4, 768, 200 × 14%) 667,548
Amortization 67,548
Carrying amount-January 1, 2019 4,768,200
Carrying amount-December 31, 2019 4,835,748

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 Effective interest method
December 31, 2020
Interest received 600,000
Interest income (4, 835, 748 × 14%) 677,005
Amortization 77,005
Carrying amount-December 31, 2019 4,836,748
Carrying amount-December 3 1, 2020 4,912,753
December 31, 2021
Interest received 600,000
Interest income 687,247*
Arnortization 87,247
Carrying amount-December 31, 2020 4,912,753
Carrying amount-December 31, 2021 5,000,000
* P4, 912, 753 × 14% equals P687, 785. There is a difference
of P538 due to rounding of present value factors.
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Journal entries on
December 31, 2019
Cash 600,000
Interest income 600,000

Unearned interest income 67,548

Interest income 67,548

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Statement presentation
If a statement of financial position is prepared on December 31,
2019, the loan receivable is presented as follows

Loan receivable 5,000,000

Unearned interest income (231,800 - 67,548) (164,252)
Carrying amount - December 3, 2019 4,835,748

The carrying amount is actually the amortized cost.

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Journal entries on December 31, 2020
Cash 600,000
Interest income 600,000
Unearned interest income 77,005
Interest income 77,005

Journal entries on December 31, 2021

Cash 600,000
Interest income 600,000
Unearned interest income 87,247
Interes income 87,247
Cash 5,000,000
Loan receivable 5,000,000
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 Impairment of loan
PFRS 9, paragraph 5.5.1, provides that an entity shall recognize a loss
allowance for expected credit losses on financial asset measured at amortized cost.
Paragraph 5.5.3 provides that an entity shall measure the loss allowance for a
financial instrument at an amount equal to the lifetime expected credit losses if the
credit risk on that financial instrument has increased significantly since initial
recognition.
Credit losses are the present value of all cash
shortfalls.
Expected credit losses are an estimate of credit
losses over the life of the financial instrument.

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Measurement of impairment
When measuring expected credit loses, an entity
should consider:
a. The probability - weighted outcome
The estimate should reflect the possibility that a
credit loss occurs and the possibility that no
credit loss occurs.
b. The time value of money
The expected credit losses should be discounted.
c. Reasonable and supportable information that is
available without undue cost or effort.
PFRS 9 does not prescribe particular method of
measuring expected credit losses.
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Measurement of impairment
An entity may use various sources of data both
internal or entity-specific and external in measuring
expected credit losses.
The amount of impairment loss can be measured
as the difference between the carrying amount and
the present value of estimated future cash flows
discounted at the original effective rate.
The carrying amount of the loan receivable shall
be reduced either directly or through the use of an
allowance account.

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Meaning of credit risk
Credit risk is the risk that one party to a financial instrument will cause a financial
loss for the other party by failing to discharge an obligation.
The risk contemplated is the risk that the issuer will fail to perform a particular
obligation. The risk does not necessarily relate to the credit worthiness of the issuer.
For example, if an entity issued a collateralized
liability and noncollateralized liability that are
otherwise identical, the credit risk of the two
liabilities will be different.
The credit risk of the collateralized liability is
surely less than the credit risk of the
noncollateralized liability. The credit risk for a
collateralized liability may be zero.
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Illustration
International Bank loaned P6,000,000 to bankkard Company on
January 1, 2017.
The terms of the loan require principal payment of P1,000,000
each year for 5 years plus interest al 10%.
The first principal and interest payment is due on December 31,
2017. Bankard Company made the required payment on
December 31, 2017 and December 31, 2018.
However during 2019, Bankard Company began to experience
financial difficulties and was unable to make the required
principal and interest payment, on December 31, 2019.

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Illustration
On December 31, 2019, International Bank assessed the
collectability of the loan and has determined that the
remaining principal payments will be collected but the
collection of the interest is unlikely.
The loan receivable has carrying amount of P3,300,000
including the accrue interest of P300,000 on December 31,
2019. International bank projected the cash flow from the
loan on December 31, 2019.

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Illustration
Date of cash flow Amount projected
December 31, 2020 500,000
Decernlier 31, 2021 1,000,000
December 31, 2022 1,500,000

Using the original effective rate of 10%, the present value

of 1 is. 9091 for one period, .8264 for two period and
.7513 for three periods.

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Illustration
Present value of the cash flows

December 31, 2020 ( 500,000 X .9091) 454,550

December 31, 2021 (1,000,000 X. 8264 ) 826,400
December 31, 2022 (1,500,000 X. 7513) 1,126 950
Total present value of cash flows 2,407,900

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Computation of Impairment Loss
The impairment loss is the difference between the carrying amount
of the loan and the present value of the cash flows.
Carrying amount of loan 3,300,000
Present value of cash flows 2,407,900
Impairment loss 892,100

Journal entry on December 31, 2019

Loan impairment loss 892,100
Accrued interest receivable 300,000
Allowance for loan impairment 592,100

The accrued interest receivable is credited directly because the

collection of interest is unlikely.
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Computation of Impairment Loss
Statement presentation on December 31, 2019
Loan receivable 3,000,000
Allowance for loan impairment (592,100)
Carrying amount 2,407,900

Journal entries on December 31, 2020

1. To record the cash collection:
Cash 500,000
Loan receivable 500,000
2. To record the interest income using the effective interest method:
Allowance for loan impairment 240,790
Interest income 240,790

The interest income for 2020 is computed by multiplying the carrying amount of the loan
by thc effective rate. Thus, P2,407,900 times 10% equals P240,790.
Note that the recognition of interest income is charged against the allowance for loan
impairment account.
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Computation of Impairment Loss
Journal entries on December 31, 2021
1. To record the cash collection:
Cash 1,000,000
Loan receivable 1,000,000

2. To record the interest income:

Allowance for loan impairment 214,869
Interest income 214,869

Loan receivable - December 31, 2020 2,500,000

Allowance for loan impairment (592,100 - 240,790) (351,310)
Carrying amount - December 31, 2020 2,148,690

Interest income for 2021 (10% × 2, 148, 690) 214,869

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Computation of Impairment Loss
Journal entries on December 31, 2022
1. To record the final cash collection:
Cash 1,500,000
Loan receivable 1,500,000

2. To record the interest income:

Allowance for loan impairment 136,441
Interest income 136,441

Loan receivabie - December 31, 2021 1,500,000

Allowance for loan impairment (351, 310 - 214, 869) (136,441)
Carrying amount - December 31, 2021 1,363,559

Interest income for 2022 (10% x 1, 363, 559) 136,356

There is a difference of P85 between P136,441 and P136,356 due to rounding

of present value factors.
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Another illustration
Urban Bank granted a loan of P3,000,000 to a borrower on
January 1, 2019. The terms of the loan were payment in full on
December 31, 2024 plus annual interest payment at 8% every
December 31. The first interest payment was made on December
31, 2019.
On December 31, 2019 due to financial difficulties, the borrower
informed Urban Bank that it probably would miss the interest
payments for the next two years.
After that, the borrower expects to resume the annual interest
payment but the principal would be paid on December 31, 2025
or one year late with interest paid for that additional year.

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Schedule of payments from the borrower
December 1, 2020 No interest payment 0
December 31, 2021 No interest. Payment 0
December 31, 2022 Interest payment (8% × P3, 000, 000) 240, 000
December 31, 2023 Interest payment 240, 000
December 31, 2024 Interest payment 240, 000
December 31, 2025 Interest payment 240, 000
Principal payment 3, 000, 000

Using the original effective interest rate of 8%, the present value of 1 is .794 for
three periods, .735 for four periods, .681for five periods, and .630 for six periods.
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Computation
The present value of the future interest and principal payments can then be computed as follows:

December 31, 2022 (240,000 x .794) 190,560

December 31, 2023 (240,000 x. 735 ) 176,400
December 31, 2024 (240,000 x. 681) 163,440
December 31, 2025 (3,240,000 x. 630) 2,041,200
Total present value of loan 2,571,600

Carrying amount of loan equal to principal only

because there is no accrued interest on
December 31, 2019 3,000,000
Present value of loan 2,571,600
Impairment loss 428,400

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Journal entries
2019
Jan. 1 Loan receivable 3,000,000
Cash 3,000,000
Dec. 31 Cash 240,000
Interest income 240,000
31 Loan impairment loss 428,400
Allowance for loan impairment 428,400

2020
Dec. 31 Allowance for loan impairment 205,728
Interest income (8% × 2, 571, 600) 205,728

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Journal entries
2021
Dec. 31 Allowance for loan impairment 222,672*
Interest income 222,672

Loan receivable - December 31, 2020 3,000,000

Allowance for loan impairment
(428,400 - 205,728) (222,672)
Carrying amount - December 31, 2020 2,777,328

* 8% times P2,777,328 equals P222,186 or a difference of P486 due to

rounding of present value factors.

Note that the allowance for loan impairment is amortized only over two years,
2020 and 2021, because it is during these years that the borrower made a
default.

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Journal entries
2022
Dec. 31 Cash 240,000
Interest income 240,000

2023
Dec. 31 Cash 240,000
Interest income 240,000

2024
Dec. 31 Cash 240,000
Interest income 240,000

2025
Dec. 31 Cash 3, 240, 000
Interest income 240, 000
Loan receivable 3, 000, 000
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Three-stage impairment approach
Stage 1 This stage covers debt instruments that have not declined
significantly in credit quality since initial recognition or that have low
credit risk.
Under this scenario, a 12-nzon th expected credit loss is recognized.

Stage 2 This stage covers debt instruments that have declined significantly in
credit quality since initial recognition but do not have objective
evidence of impairment.
Under this scenario, a lifetime expected credit loss is recognized.
There is rebutable presumption that there is a significant increase in
credit risk if the contructual payments are more than 30 days past due

Stage 3 This stage covers debt instruments that have objective evidence of
impairment at the reporting date.
Under this scenario, a lifetime expected credit loss is recognized.

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12-month expected credit loss
A 12 - month expected credit loss is defined as the portion of the lifetime expected
credit loss from default events that are possible within 12 months after the
reporting period.

Lifetime expected credit loss

Lifetime expected credt loss is defined as the expected credit loss that results from
all default events over the expected life of the instrument.
Lifeline expected credit loss shall always be recognized for trade receivable
through aging, percentage of accounts receivable and percentage of sales.

Interest income
a. Under stages 1 and 2, interest income is computed based on the gross carrying
amount or face amount.
b. Under stage 3, interest income is computed based on the net carrying amount
which is equal to the gross carrying amount or face amount minus allowance for
credit loss.

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Stage 1 - Low credit risk
On January 1, 2019, a bank loaned P2,000,000 to a borrower. The contract specified an effective interest of
10%, a term of 8 years and interest is payable annually every December 31. On December 31, 2019, based
on the most relevant information available, the bank determined that the loan had a 12 - month probability
of default of 5% and expected to collect only 80% of the principal.

The present value of 1 at 10% for T periods is 0 .1.

Journal entries for 2019

Jan. 1 Loan receivable 2,000,000
Cash 2,000,000
Dec. 31 Cash (2, 000, 000 × 10%) 200,000
Interest income 200,000
Impairment loss 59,200
Allowance for loan impairment 59,200

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Computation
Carrying amount - December 31, 2019 2,000,000
Probability of collection 80%
Expected cash flow 1,600,000
Multiply by PV of 1 at 10% for 7 period 0.51
Present value of cash flow - December 31, 2019 816,000
Carrying amount - December 31, 2019 2,000,000
Present value of expected cash flow - December 31, 2019 816,000
Expected credit loss 1,184,000
Multiply by probability of default within 12 months 5%
12-month expected credit loss 59,200
Loan receivable 2,000,000
Allowance for loan impairment (59,200)
Carrying amount - December 31, 2019 1,940,800
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 Stage 2 - Significant increase in credit risk
but no objective evidence of impairment
On December 31, 2020, the bank determined that there was a significant increase in the credit risk of the
loan receivable but no objective evidence of impairment. The bank concluded that there is a 40% probability
of default over the remaining life of the loan and the bank expected to collect only 70% of the principal
balance.

The present value of 1 at 10% for 6 periods is 0. 56.

Journal entries for 2020

Dec. 31 Cash 200,000
Interest income 200,000
31 Impairment loss 427,200
Allowance for loan impairment 427,200

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Computation
Carrying amount - December 31, 2020 2,000,000
Probability of collection 70%
Expected cash flow 1,400,000
Multiply by PV of 1 at 10% for 6 periods 0.56
Present value of expected cash flow 784,000
Carrying amount - December 31, 2020 2,000,000
Present value of expected cash flow - December 31, 2020 784,000
Expected credit loss 1,216,000
Multiply by probability of default within 6 year 40%
Lifetime expected credit loss allowance 486,400
Unadjusted allowance - December 31, 2019 (59,200)
Impairment loss 427,200
Loan receivable 2,000,000
Allowance for loan impairment (486,400)
Carrying amount - December 31, 2020 1,513,600
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Stage 3 Objective evidence of impairment
On December 31, 2021, the borrower was in financial difficulty and the loan was considered impaired.
The bank concluded that only 50% of the principal balance will be collected on December 31, 2026.
Interest for 2021 was collected. The present value of 1 at 10% for 5 periods is 0. 62.

2021
Dec. 31 Cash 200,000
Interest income 200,000

31 Impairment loss 893,600

Allowance for loan impairment 893,600

31 Allowance for loan impairment 1,000,000

Loan receivable 1,000,000
Write-off of uncollectible loan

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Computation
Carrying amount - December 31, 2021 2,000,000
Probability of collection 50%
Expected cash now 1,000,000
Present value of 1 at 10% for 5 periods 0.62
Present value of expected cash flow 620,000
Carrying amount-December 31, 2021 2,000,000
Present value of expected cash flow - December 31, 2021 620,000
Lifetime expected credit loss 1,380,000
Unadjusted allowance (486,400)
Impairment loss 893,600

The interest income for 2021 is still based on the gross carrying amount because the loan is still under Stage 2
for the entire year 2021.

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2022
Dec. 31 Allowance for loan impairment 62,000
Interest income 62,000
The interest income for 2022 is based on the net carrying amount using the effective method.

Computation
Loan receivable - December 31, 2021 1,000,000
Allowance for loan impairment (380,000)
Carrying amount - December 31, 2021 620,000
Allowance for loan impairment - January 1, 2021 486,400
Increase in allowance for 2021 893,600
Allowance - December 31, 2021 before write off 1,380,000
Write-off of uncollectible loan (1,000,000)
Allowance for loan impairment - December 31, 2021 380,000

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Carrying amount - January 1, 2022 620,000
Interest income for 2022 (620, 000 × 10%) 62,000
Carrying amount-December 31, 2022 682,000
Interest income for 2023 (682, 000 × 10%) 68,200
Carrying amount-December 31, 2023 750,200
Interest income for 2024 (750, 200 × 10%) 75,020
Carrying amount - December 31, 2024 825,220
Interest income for 2025 (825, 220 × 10%) 82,522
Carrying amount - December 31, 2025 907,742
Interest income for 2026 92,258
Carrying amount - December 31, 2026 1,000,000

2026
Dec. 31 Cash 1, 000, 000
Loan receivable 1, 000, 000
Settlement of the loan
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Thank You for
Listening