WallStreetMojo

WallStreetMojo

WallStreetMojo

MENUMENU
  • Blog
  • Free Video Tutorials
  • Courses
  • All In One Bundle
  • Login
Home » Accounting Tutorials » Income Statement Tutorials » Interest Expense

Interest Expense

By Madhuri ThakurMadhuri Thakur | Reviewed By Dheeraj VaidyaDheeraj Vaidya, CFA, FRM

What is Interest Expense?

Interest expense represents an amount of interest payable on any borrowings which includes loans, bonds or other lines of credit and its associated costs are shown on the income statement. These expenses highlight interest accrued during the period and not the interest amount paid over the time period.

Formula

Interest expense is usually calculated as the interest rate times the outstanding debt balance.

Interest Expense = Average Balance of Debt Obligation x Interest Rate.
Interest Expense 1

How is Interest Expense Recorded in the Income Statement?

It is reported after the Operating income vs. EBIT, as shown in the income statement below.

Interest Expense Income Statement

source: Apple SEC filings

Example

Let us look at the below instance for a clear understanding of such an expense under the accrual method:

Assume a company borrows $125,000 on January 15 and agrees to pay interest amount on the 15th of every month from February 20. The loan indicates interest is 2% per month on the loan balance. The interest expense for month of January shall be [125,000 * 2%* 0.5 month] = $1,250.

Interest for month of February = $125,000 *2% * 1 = $2,500

Popular Course in this category
Sale
All in One Financial Analyst Bundle (250+ Courses, 40+ Projects)
4.9 (1,067 ratings)
250+ Courses | 40+ Projects | 1000+ Hours | Full Lifetime Access | Certificate of Completion
View Course
  • It should be noted that interest on the debt is not paid on a daily basis, and a firm must record an adjusting entry to accrue this expense and to report interest payable.
  • Extending the above example, the loan was commenced from January 15, so for that month, only interest for remaining days (0.5 months) would be considered.

Interest Expense Journal Entries

Let us look at the below examples of journal entries of interest expense:

Monthly Journal Entry –

Example 1.1

(This signifies cash amount paid out against interest recording)

Postpaid Journal Entry –

Example 1.2

(Interest payment is recorded as a liability and amount is to be paid)

Prepaid Journal Entry –

Example 1.3

(Cash paid in advance for interest payable in the future)

How to record in the Balance Sheet?

  • Interest accrued but not paid would be recorded under Current Liabilities of the Balance Sheet (as interest payable)
  • Interest paid in advance will be recorded within the section of Current Assets as a Prepaid item.

Where to record in Cash Flow Statements?

  • As the net profit or loss reported by the firm’s cash flow statement includes these expenses the business has paid during a given time period, the amount paid appears as a separate line item on the company’s cash flow statement, and the appropriate expense will appear under the income statement.
  • The interest amount paid on loans (short term and long term debt) is recorded under Operating activities in the cash flow. However, the principal amounts borrowed and that repaid are separately included under financing activities. Since loan amounts are borrowed money and not an income from the sale of goods or services, they are a part of the cash flow statement but not the income statement.

Interest and Tax Shield

The interest reduces the overall taxes in the income statement and thus can be used as a way to reduce tax liabilities (also called a tax shield).

For example, a firm with no Debt and EBT [Earnings Before Tax] of $2 million (tax rate @30%), the tax payable will be $600,000.

If the same firm assumes a debt and has an interest of say $500,000, the new Earnings before Profit would be $1.5 million [$2million – $500,000]. This will make their taxes payable $500,000 [$1.5mm*30%].

Thus, there is a tax shield of $600,000 – $500,000 = $100,000.

Net Interest Expense

Net

source: Colgate SEC filings

Net interest expense is the Total Interest net of any interest income that a company receives on Investments.  On a financial statement, the income can be listed separately from expenses or provide a net interest number, which is either positive or negative.

Recommended Articles

This has been a guide to what is Interest Expense in the Income Statement and its meaning. Here we discuss how to record interest expense in income statement & balance sheet along with its journal entries. You may learn more about accounting from the following articles –

  • Formula of Interest Expense
  • Explain Income Summary Account
  • Capitalized Interest
  • Imputed Interest
0 Shares
Share
Tweet
Share
Primary Sidebar
Footer
COMPANY
About
Reviews
Contact
Privacy
Terms of Service
RESOURCES
Blog
Free Courses
Free Tutorials
Investment Banking Tutorials
Financial Modeling Tutorials
Excel Tutorials
Accounting Tutorials
Financial Statement Analysis
COURSES
All Courses
Financial Analyst All in One Course
Investment Banking Course
Financial Modeling Course
Private Equity Course
Venture Capital Course
Excel All in One Course

Copyright © 2021. CFA Institute Does Not Endorse, Promote, Or Warrant The Accuracy Or Quality Of WallStreetMojo. CFA® And Chartered Financial Analyst® Are Registered Trademarks Owned By CFA Institute.
Return to top

WallStreetMojo

Free Investment Banking Course

IB Excel Templates, Accounting, Valuation, Financial Modeling, Video Tutorials

* Please provide your correct email id. Login details for this Free course will be emailed to you

Book Your One Instructor : One Learner Free Class
Let’s Get Started
Please select the batch
Saturday - Sunday 9 am IST to 5 pm IST
Saturday - Sunday 9 am IST to 5 pm IST

This website or its third-party tools use cookies, which are necessary to its functioning and required to achieve the purposes illustrated in the cookie policy. By closing this banner, scrolling this page, clicking a link or continuing to browse otherwise, you agree to our Privacy Policy

Login

Forgot Password?

WallStreetMojo

Free Accounting Course

You will Learn Basics of Accounting in Just 1 Hour, Guaranteed!

* Please provide your correct email id. Login details for this Free course will be emailed to you

Special Offer - All in One Financial Analyst Bundle (250+ Courses, 40+ Projects) View More