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Issue and Redemption of Debentures

Issue and Redemption of Debentures

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Debentures as Collateral Security
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Financial Statement Presentation
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Interest on Debentures
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Issue and Redemption of Debentures
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Journal Entries for Debentures
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Types of Debentures
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Writing off Discount/Loss on Issue of Debentures
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Learning Objectives

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Learning Objectives

After studying this chapter you will be able to:
  • State the meaning of debenture and explain the difference between debentures and shares.
  • Describe various types of debentures.
  • Record the journal entries for the issue of debentures at par, at a discount, and at a premium.
  • Explain the concept of debentures issued for consideration other than cash and the accounting thereof.
  • Explain the concept of issue of debentures as collateral security and the accounting thereof.
  • Record the journal entries for the issue of debentures with various terms of issue and terms of redemption.
  • Show the items relating to the issue of debentures in the company's balance sheet.
  • Describe the methods of writing off discount/loss on the issue of debentures.
  • Explain the methods of redemption of debentures and the accounting thereof.
  • Explain the concept of sinking fund, its use for redemption of debentures, and the accounting thereof.

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Revision Notes & Summary

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Notes on Debentures

1. Meaning of Debentures

  • Definition: A debenture is a written instrument acknowledging a debt under the common seal of the company. It includes a contract for repayment of principal and payment of interest at a fixed rate.
  • Origin: Derived from the Latin word 'debere' meaning to borrow.
  • Legal Reference: According to section 2(30) of The Companies Act, 2013, 'Debenture' includes Debenture Inventory, Bonds, and any other securities of a company.

2. Types of Debentures

  • Based on Security:
    • Secured Debentures
    • Unsecured Debentures
  • Based on Tenure:
    • Redeemable Debentures
    • Perpetual Debentures
  • Based on Mode of Redemption:
    • Convertible Debentures (Fully and Partly convertible)
    • Non-convertible Debentures
  • Based on Coupon Rate:
    • Zero Coupon Rate Debentures
    • Specific Rate Debentures
  • Based on Registration:
    • Registered Debentures
    • Bearer Debentures

3. Issue of Debentures

  • At Par: When the amount collected equals the nominal value.
  • At Premium: When the issue price is more than the nominal value (e.g., Rs. 100 debentures issued for Rs. 110).
  • At Discount: When the issue price is less than the nominal value.
  • Consideration Other than Cash: Debentures can be issued to vendors or suppliers without cash payment.
  • Collateral Security: Additional security provided along with primary security.

4. Redemption of Debentures

  • Definition: Discharge of liability on account of debentures by repayment to debenture holders.
  • Methods: Redemption can occur at par, at a premium, or through conversion into shares.

5. Accounting Treatment

  • Journal Entries: Various entries are recorded for the issue and redemption of debentures, including interest payments and tax deductions.
  • Balance Sheet Presentation: Debentures are shown under long-term borrowings in the liabilities section.

6. Important Terms

  • Debenture Holder: A person holding a debenture.
  • Bond: Similar to a debenture but may not have a predetermined interest rate.
  • Charge: An encumbrance on assets to secure repayment.
  • Sinking Fund: A fund established to accumulate money for the redemption of debentures.

7. Example Journal Entries

  • Issue of Debentures:
    • Bank A/c Dr.
    • To Debenture Application A/c
  • Redemption of Debentures:
    • Debentureholders A/c Dr.
    • To Bank A/c

8. Balance Sheet Extract Example

ParticularsAmount (Rs.)
Long-term borrowings10,00,000
Cash at bank9,00,000

9. Interest on Debentures

  • Obligation: Companies must pay interest at a fixed percentage, regardless of profit.
  • Tax Deducted at Source (TDS): Applicable on interest exceeding a prescribed limit.
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Practice Test – MCQs, True/False

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Multiple Choice Questions

A.

As a regular expense in the profit and loss account.

B.

As a deduction from the securities premium reserve.

C.

As a liability under 'Non-current liabilities'.

D.

As an increase in the capital reserve.
Correct Answer: C

Solution:

Premium on redemption is a liability of a company payable in future and is shown under 'Non-current liabilities'.

Chapter Concept:

Issue and Redemption of Debentures

A.

The premium is credited to 'Securities Premium Reserve'.

B.

The premium is debited to 'Loss on Issue of Debentures'.

C.

The premium is credited to 'Profit and Loss Account'.

D.

The premium is debited to 'Debenture Application and Allotment A/c'.
Correct Answer: A

Solution:

The premium received on issue of debentures is credited to 'Securities Premium Reserve' as it is a capital receipt.

Chapter Concept:

Financial Statement Presentation

A.

As a liability under long-term borrowings.

B.

As an asset under current assets.

C.

As a note below the item of loan on the liability side.

D.

As a deduction from equity capital.
Correct Answer: C

Solution:

Debentures issued as collateral security are not recorded as a liability but are noted below the loan item in the balance sheet.

Chapter Concept:

Financial Statement Presentation

A.

To increase the company's equity.

B.

To provide additional security to lenders.

C.

To convert debentures into shares.

D.

To record an immediate liability.
Correct Answer: B

Solution:

Debentures are issued as collateral security to provide additional security to lenders, ensuring that the loan amount can be recovered if the primary security is insufficient.

Chapter Concept:

Debentures as Collateral Security

A.

No entry is made in the books of accounts.

B.

An entry is made debiting Debenture Suspense Account.

C.

An entry is made crediting Debenture Application Account.

D.

The debentures are recorded as a liability immediately.
Correct Answer: A

Solution:

When debentures are issued as collateral security, no entry is made in the books of accounts. Instead, a note is appended in the balance sheet indicating the debentures issued as collateral security.

Chapter Concept:

Debentures as Collateral Security

A.

Bank A/c Dr. To Debenture Application & Allotment A/c

B.

Debenture Application & Allotment A/c Dr. To Debentures A/c To Premium on Redemption of Debentures A/c

C.

Debenture Application & Allotment A/c Dr. Loss on Issue of Debentures A/c Dr. To Debentures A/c To Premium on Redemption of Debentures A/c

D.

Debenture Application & Allotment A/c Dr. To Debentures A/c To Securities Premium Reserve A/c
Correct Answer: C

Solution:

When debentures are issued at a discount and redeemable at a premium, the journal entry involves debiting the Debenture Application & Allotment A/c and Loss on Issue of Debentures A/c, and crediting the Debentures A/c and Premium on Redemption of Debentures A/c.

Chapter Concept:

Journal Entries for Debentures

A.

Bank A/c Dr. To Debenture Application & Allotment A/c

B.

Debenture Application & Allotment A/c Dr. To Debentures A/c

C.

Debenture Application & Allotment A/c Dr. Discount on Issue of Debentures A/c Dr. To Debentures A/c

D.

Bank A/c Dr. To Debenture Interest A/c
Correct Answer: C

Solution:

When debentures are issued at a discount, the entry is: Debenture Application & Allotment A/c Dr. Discount on Issue of Debentures A/c Dr. To Debentures A/c.

Chapter Concept:

Journal Entries for Debentures

A.

Rs. 5,000

B.

Rs. 10,000

C.

Rs. 15,000

D.

Rs. 2,500
Correct Answer: A

Solution:

The tax deducted at source is 10% of Rs. 50,000, which amounts to Rs. 5,000.

Chapter Concept:

Interest on Debentures

A.

Debit Securities Premium Reserve A/c and Statement of Profit and Loss, credit Discount on Issue of Debentures A/c.

B.

Debit Discount on Issue of Debentures A/c, credit Securities Premium Reserve A/c.

C.

Debit Bank A/c, credit Discount on Issue of Debentures A/c.

D.

Debit Statement of Profit and Loss, credit Bank A/c.
Correct Answer: A

Solution:

The discount on the issue of debentures is written off by debiting the Securities Premium Reserve A/c (if available) and the Statement of Profit and Loss.

Chapter Concept:

Journal Entries for Debentures

A.

100,000100,000

B.

50,00050,000

C.

150,000150,000

D.

200,000200,000
Correct Answer: A

Solution:

The discount on issue is 100,000100,000 (10%10\% of 1,000,0001,000,000), which can be fully written off against the securities premium reserve of 500,000500,000.

Chapter Concept:

Writing off Discount/Loss on Issue of Debentures

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Issue and Redemption of Debentures

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True or False

Correct Answer: True

Solution:

Debentures issued as collateral security are not recorded as a liability in the company's books, but a note is appended in the balance sheet indicating the issue of debentures as collateral security.

Chapter Concept :

Debentures as Collateral Security

Correct Answer: True

Solution:

Bearer debentures are transferable by mere delivery, and the company does not maintain a record of the debentureholders. This allows for easy transferability without the need for a formal transfer deed.

Chapter Concept :

Types of Debentures

Correct Answer: True

Solution:

Bearer debentures are transferred by delivery and do not require the company to maintain a record of the transaction.

Chapter Concept :

Types of Debentures

Correct Answer: False

Solution:

The Companies Act, 2013 does not impose any restrictions on the issue of debentures at a discount.

Chapter Concept :

Issue and Redemption of Debentures

Correct Answer: True

Solution:

The discount or loss on issue of debentures is a capital loss and can be written off using the securities premium reserve, as stated in section 52(2).

Chapter Concept :

Writing off Discount/Loss on Issue of Debentures

Correct Answer: False

Solution:

The Companies Act, 2013 does not impose any restrictions upon the issue of debentures at a discount.

Chapter Concept :

Issue and Redemption of Debentures

Correct Answer: True

Solution:

Interest on debentures is a charge against the profit of the company and must be paid whether the company has earned any profit or not.

Chapter Concept :

Interest on Debentures

Correct Answer: False

Solution:

Debentures issued as collateral security do not create a liability and therefore do not require a journal entry in the company's books. Instead, a note is appended to the balance sheet indicating that the loan is secured by debentures issued as collateral security.

Chapter Concept :

Debentures as Collateral Security

Correct Answer: True

Solution:

Debentures issued as collateral security do not create a liability in the company's books unless the primary security is insufficient to cover the loan.

Chapter Concept :

Issue and Redemption of Debentures

Correct Answer: True

Solution:

The discount on the issue of debentures can be written off by debiting it to the Securities Premium Reserve during the lifetime of the debentures.

Chapter Concept :

Journal Entries for Debentures

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