CHAPTER 9-DEBT RESTRUCTURE Computation

Definition: Note payable 2,000,000

Accrued interest payable 400,000

●situation where the creditor, foreconomic or
legal reasons related to the debtor's Total liability 2,400,000
financialdifficulties, grants to the debtor
concession that would nototherwise be granted Less: Carrying amount of land 1,500,000
in a normal business relationship. Gain on extinguishment of debt 900,000

●concession- either stems from an agreement Journal entry

between thecreditor and debtor, or is imposed
Note payable 2,000,000
by law or a court.
Accrued interest payable 400,000
●Creditor’s objective- make the best of a bad
situation or maximize recovery of investment Land 1,500,000

Creditor- loss Debtor- gain Gain on extinguishment of debt 900,000

Types of debt restructuring USA GAAP

1. Asset swap ●recordedasiftwotransactionshavetakenplace:s

aleoftheasset&extinguishmentoftheliability
2. Equity swap
● twogains or losses are recognized
3. Modification of terms
●Gain/Loss on Exchange- difference between
Asset swap the fair value of the asset and thecarrying
amount is the
●the transfer by the debtor to the creditor
ofany asset,such as real estate, inventory, ●Gain/Loss from Restructuring-difference
receivables andinvestment, in full payment of between the carrying amount of the liability and
an obligation the fair value of the asset
●treated as aderecognition of a financial Fair value of land 2,200,000
liability or extinguishment of anobligation
Carrying amount of land 1,500,000
●difference between thecarrying amount of the Gain on exchange 700,000
financial liability and theconsideration given
shall be recognized in profit or loss Note payable 2,000,000

(Carrying amount-consideration= profit or loss) Accrued interest payable 400,000

Illustration Total liability 2,400,000

An entity provided the following balances at year-end: Fair value of land 2,200,000

Note payable 2,000,000 Gain on debt restructuring 200,000

Accrued interest payable 400,000 ●gain on extinguishment= gain on exchange

and gain on debt restructuring
At year-end, the entity transferred to the creditor land
withcarrying amount of P1,500,000 and fair value of
P2,200,000.
Journal entry Journal entry

Note payable 2,000,000 Mortgage payable 3,000,000

Accrued interest payable 400,000 Accrued interest payable 200,000

Land 1,500.000 Bank service charges 50,000

Gain on exchange 700,000 Loss on extinguishment of debt 450,000

Gain on debt restructuring 200,000 Accumulated depreciation 800,000

Land 500,000

Dacionenpago accounting Building 4,000,000

● arises when a mortgaged property is Equity swap

offeredby the debtor in full settlement of the
debt
●transaction shall be accounted for as an
"asset swap" form of debt restructuring
●recognition of gainor loss based on the
balance of the obligation
includingaccruedinterestandothercharges
Gain on extinguishment of debt- if balance
of the obligation including accrued interest
andother charges is more than the carrying
amount of the propertymortgaged
Loss on extinguishment- if balance of the
obligation is less than thecarrying amount of
property mortgaged
Illustration
Land costing 500,000 and building costing 4,000,000
with accumulated depreciation of 800,000, were
mortgaged to secure a bank loan of 3,000,000.
Face amount of the loan 3,000,000
Accrued interest payable 200,000
Legal fee and bank service charges 50,000
●transactionwheredebtorand
creditormayrenegotiatethetermsofafinancial
liability
withtheresultthattheliabilityisfullyorpartiallyextin
guishedbythedebtor
issuingequityinstrumentstothecreditor
●issuanceofsharecapitalby the debtor to the
creditor in full or partial payment ofobligation
Accounting issue
● equity instruments issued toextinguish all or
part of a financial liability are
recognizedinitially, an entity shall measure the
equity instruments atthe fair value of the
equity instruments issued, unlessthat fair
value cannot be reliably measured.
●fair value of the equity instruments issued
cannot bereliably measured- equity
instruments shall bemeasured to reflect the fair
value of the financial liabilityextinguished
●equity instruments issued to extinguisha
financial liability shall be measured at the
followingamounts in the order of priority:

Subsequently, the land and building were given to the a. Fair value of equity instruments issued
bankin full payment of the liability
b. Fair value of liability extinguished
c. Carrying amount of liability extinguished
Total liability 3,250,000

Less: Carrying amount of land and building3,700,000

(500,000+ 3,200,000)
Loss on extinguishment of debt
●difference between the carrying amount of
Liabilityandtheinitialmeasurementoftheequity
instruments issued shall be recognized in profit
or loss ●gain or
(150.000)
loss in extinguishment shall be reportedas
aseparate line item in the income statement.
Illustration Carrying Amount of Bonds Payable Is Used

An entity showed the following data at year-end: Bonds payable 5,000,000

Bonds payable 5,000,000 Accrued interest payable 500,000

Accrued interest payable 500,000 Share capital 2,000,000

The entity issued share capital with a total par value Share premium 3,500,000
ofP2,000,000 and fair value of P4,500,000 in full
settlement ofthe bonds payable and accrued interest.

On the other hand, the fair value of the bonds payable Carrying amount of bonds payable 5,500,000
isP4,700,000.
Par value of shares issued 2,000,000
Fair value of shares issued is used
Share premium 3,500,000
Bonds payable 5,000,000
If the carrying amount of the liability is used, there is
Accrued interest payable 500,000 nogain or loss on extinguishment.

Share capital 2,000,000 Modification of terms

Share premium 2,500,000 ●may involve either the interest, maturity value
Gain on extinguishment of debt 1,000,000 or both
Fair value of shares issued 4,500,000
●Interest concession- may involve a reduction
Par value of shares issued 2,000,000 of interest rate,forgiveness of unpaid interest or
a moratorium on interest
Share premium 2,500,000

Bonds payable 5,000,000

Accrued interest payable
Carrying amount of bonds payable
Fair value of shares issued
Gain on extinguishment of debt
Fair value of bonds payable is used
Bonds payable
Accrued interest payable
Share capital
Share premium
Gain on extinguishment of debt800,000
Fair value of bonds payable
Par value of shares issued
Share premium
Carrying amount of bonds payable
●Maturity value concession- may involve an
extension of thematurity date or a reduction of
500,000 the principal amount
5,500,000 ●a substantialmodification of terms of an
4,500,000
existing financial liability shallbe accounted for
as an extinguishment of the old financialliability
1,000,000 and the recognition of a new financial liability.
● there is substantial modification of terms if
5,000,000 the gain or loss onextinguishment is at least
10% of the old financial liability
500,000
●difference between the carrying amount of the
2,000,000 oldliability and the present value of new or
2,700,000 restructuredof liability ►gain or loss on
extinguishmentdebt
●old effective rate is used in computing the
4,700,000 present value ofthe new liability
2,000,000
●any costs or fees incurred as a result of the
2,700,000 substantialmodification of terms ► gain orloss
on extinguishment
5,500,000

Fair value of bonds payable 4,700,000

Gain on extinguishment of debt 800,000

Illustration - Modification of terms Journal entries

On January 1, 2020, an entity showed the following: 1. To record the extinguishment of the old note payable

Note payable - due January 1, 2020 - 14%5,000,000 Note payable-old 5,000,000

Accrued interest payable 1,000,000 Accrued interest payable 1,000,000

The entity is granted by the creditor the Discount on note payable 466,120
followingconcessions on January 1, 2020:
Note payable-new4,000,000
a. The accrued interest of P1,000,000 is forgiven.
Gain on extinguishment of debt2,466,120
b. The principal obligation is reduced to P4,000,000

c. The new interest rate is 10% payable every December

31. 2. To record the interest payment on the new note
payablefor 2020:
d. The new date of maturity is December 31, 2023.
Interest expense (10% x 4,000,000) 400,000
● requires computation of the present value of the
newnote payable using the old rate of 14%. Cash400,000

● present value of the new note payable = present value

of the new principal plus the present value ofthe interest 3. To amortize the discount on note payable for 2020:
payments on the new principal liability.
Interest expense94,743
Computation
Discount on note payable94,743
The present value of 1 at 14% for 4 periods is 0.5921
and thepresent value of an ordinary annuity of 1 at 14% Date Interest Interest Discount Carrying
for 4 periodsis 2.9137. paid expense amortizat amount
ion
PV of principal (4,000,000 x.5921) 2,368,400
1/1/20 3,533,880
PV of interest payments (400,000 x 2.9137)1,165,480

Present value of new note payable 3,533,880 12/31/20 400,000 494,743 94,743 3,628,623

Face value of new note payable 4,000,000 12/31/21 400,000 508,007 108,007 3,736,630

Discount on note payable 466,120 12/31/22 400,000 623,128 123,128 3,859,758

12/31/23 400,000 540,242 140,242 4,000,000

Note payable-old 5,000,000

Accrued interest payable 1,000,000 December 31, 2020

Carrying amount of old liability 6,000,000 Interest paid (10% x 4,000,000) 400,000
Present value of new note payable 3,533,880 Interest expense (14% x 3,533,880) 494,743
Gain on extinguishment of debt 2,466,120 Discount amortization 94,743

Carrying amount - January 1, 2020 3,533,880

Carrying amount - December 31, 2020 3,628,623

December 31, 2021 PV of principal (5,000,000 x 7513) 3,756,500

Interest paid 400,000 PV of int pmt (5,000,000 x 14% x 2.4869)1,740,830

Interest expense (14% x 3,628,628) 508,007 Total present value of new liability 5,497,330

Discount amortization 108,007 Carrying amount of old liability 6,000,000

Carrying amount - December 81, 20203,628,623 Present value of new note payable 5,497,330

Carrying amount - December 31, 20213,736,630 Gain on modification 502,670

Present value of new note payable 5,497,330

Books of creditor Face amount of new note payable 5,000,000

Journalentriesfor2020 onthebooksofcreditor Premium on the new note payable 497,330

Jan. 1 ● gain is less than 10% of the carrying amount of

oldliability of P6,000,000
Note receivable –new 4,000,000

Loss on debt restructure 2,466,120

● nosubstantial modification of terms

Note receivable – old 5,000,000 ●any gain or loss on modification shouldbe recognized
in profit or loss even if there is no substantialmodification
Accrued interest receivable 1,000,000 of terms

Unearned interest income 466,120 ● interest expense is computed based on the original
effectiveamortized using the effective interest method
Dec. 31Cash 400,000
Journal entries
Interest income 400,000
1. To record the modified liability on January 1, 2020:
31Unearned interest income 94,743
Accrued interest payable 1,000,000
Interest income 94,743
Premium on note payable 497,330

Gain on modification of terms 502,670

No substantial modification
2. To record the annual interest payment for 2020:
Note payable -- due January 1, 2020 - 10%5,000,000
Interest expense (5,000,000 x 14%)700,000
Accrued interest payable1,000,000
Cash 700,000
a.The accrued interest of P1,000,000 is forgiven.
3. To amortize the premium on note payable:
b. The interest rate is 14% payable every December 31.
Premium on note payable 150,267
c.The date of maturity is December 31, 2022.
Interest expense 150,267
Note payable 5,000,000

Accrued interest payable 1,000,000

Carrying amount of old liability 6,000,000

● requires computation of the present value of the

newnote payable using the old rate of 10%.

The present value of 1 at 10% for three periods is

0.7513 andthe present value of an ordinary of 1 at 10%
for three periodsis 2.4869.
Date Interest Interest Prem. Carrying
paid expense amortiz amount
ation

1/1/2020 5,497,330

12/31/202 700,000 549,733 150,267 5,347,063

0

12/31/202 700,000 534,706 165,294 5,181,769

1

12/31/202 700,000 518,231 181,769 5,000,000

2