Interest and Income Receivable

What is Interest and Income Receivable?

Income receivable refers to money that your business has earned but has not yet collected. Think of it like when you lend N5,000 to your friend in December, and they promise to pay you back with N500 interest in January. Even though you have not received the N500 interest in December, you have already earned it. This N500 is your “interest receivable.”

In accounting, we follow the accrual concept. This means we record income when it is earned, not when cash is received. If you own a shop and rent out the upstairs flat for N50,000 per month, but your tenant has not paid December rent by year-end, that N50,000 is still your income for December. It becomes “rent receivable.”

Common Types of Income Receivable

Interest Receivable: This is interest earned on money you lent out or deposited in a bank. For example, if Ade’s Business placed N1,000,000 in a fixed deposit account at 10% annual interest, the business earns N100,000 interest yearly. If by December 31st the bank has not paid the interest, it becomes interest receivable.

Rent Receivable: Money earned from renting out property that tenants have not yet paid. Many businesses in Lagos own buildings and rent out parts. If a tenant should pay N100,000 for December but has not paid by year-end, this becomes rent receivable.

Commission Receivable: Money earned from acting as an agent for sales but not yet received. If you sell goods for another company and earn 5% commission, but they have not paid you, this is commission receivable.

Discount Receivable: Cash discount earned from suppliers for early payment that has not been recorded. When you pay your supplier before the due date and they promise a 2% discount that has not been processed, it becomes discount receivable.

How Income Receivable Affects Financial Statements

Effect on Profit and Loss Account

Income receivable increases your net profit. You start with gross profit, then add all income receivable before deducting expenses. The format looks like this:

Gross Profit: N500,000
Add: Other Income
Rent Receivable: N50,000
Interest Receivable: N20,000
Commission Receivable: N30,000
Total: N600,000
Less: Expenses
Salaries: N150,000
Net Profit: N450,000

Effect on Balance Sheet

Income receivable appears as a current asset. It shows money owed to the business that should be collected within one year. Under current assets, you will see items like:

• Stock: N200,000
• Debtors: N300,000
• Rent Receivable: N50,000
• Interest Receivable: N20,000
• Bank: N100,000

Income Receivable vs Income Received in Advance

Adjustments for Prepayments and Accruals

When preparing final accounts, you must make adjustments for items paid in advance (prepayments) and items due but not paid (accruals).

For Income Items:

Add: Income receivable (accrued income) – This is income earned but not received. A tenant owes you N50,000 rent for December. You add this to your rental income.

Deduct: Income received in advance (prepaid income) – This is income received but not earned. A tenant paid N50,000 for January rent in December. You deduct this from your rental income for December.

For Expense Items:

Add: Expenses payable (accrued expenses) – This is expense incurred but not paid. You used N30,000 electricity in December but NEPA has not billed you. You add this to your electricity expense.

Deduct: Expenses paid in advance (prepaid expenses) – This is expense paid but not incurred. You paid N60,000 for January and February rent in December. You deduct N60,000 from December rent expense.

Worked Example: Adjusting for Receivables

Question: Musa’s Trading Company earned N240,000 rent during 2023. At the start of the year, tenants owed N20,000. At year-end, tenants owed N30,000. Calculate the rent received in cash during the year.

Solution:

Rent Receivable at start: N20,000
Add: Rent earned during year: N240,000
Total rent due: N260,000
Less: Rent Receivable at end: N30,000
Cash received during year: N230,000

The N30,000 owed at year-end is shown as rent receivable (current asset) on the balance sheet.

Common Exam Mistakes to Avoid

Mistake 1: Confusing receivables with prepayments. WAEC examiners note that many students add both income receivable and income received in advance to profit. Remember: receivables are ADDED (income earned), prepayments are DEDUCTED (income not yet earned).

Mistake 2: Putting income receivable under liabilities. Income receivable is money owed TO you, so it is an asset. Many students wrongly classify it as a liability. If someone owes you money, that is your asset.

Mistake 3: Not adjusting opening and closing balances. When calculating cash received, you must consider both opening receivables (already owed to you) and closing receivables (still owed to you). Use the formula: Opening + Income Earned – Closing = Cash Received.

Mistake 4: Using wrong terms. “Interest receivable” means interest you will receive (asset). “Interest payable” means interest you will pay (liability). Don’t mix them up. The word after “receivable” or “payable” does not change – it is about who owes whom.

Mistake 5: Forgetting to show adjustments in balance sheet. After adding income receivable to profit and loss account, you must also show it as a current asset in the balance sheet. Both sides of the equation must balance.

Practice Questions

Multiple Choice Questions

1. Which of these is an example of income receivable?
a) Rent paid in advance
b) Salaries owed to workers
c) Interest earned but not received ✓
d) Stock purchased on credit

2. Income receivable appears in the balance sheet as:
a) Current liability
b) Fixed asset
c) Current asset ✓
d) Long-term liability

3. Ojo’s business earned N150,000 rent in 2023. Opening rent receivable was N10,000 and closing was N15,000. How much rent was received in cash?
a) N135,000
b) N145,000 ✓
c) N155,000
d) N175,000

4. If commission receivable is N8,000, it should be:
a) Added to gross profit ✓
b) Deducted from gross profit
c) Ignored in final accounts
d) Shown only in balance sheet

Essay Questions

Question 1: Explain the difference between rent receivable and rent received in advance. (4 marks)

Answer Guide:
– Rent receivable is rent earned but not received (1 mark)
– It is added to profit and loss account (1 mark)
– Rent received in advance is rent received but not yet earned (1 mark)
– It is deducted from profit and loss account (1 mark)

Question 2: Bisi’s Business earned N360,000 commission in 2023. Commission receivable at the start was N25,000 and at the end was N35,000. Calculate: (a) Total commission due (b) Cash commission received (c) How the closing receivable should be treated in final accounts. (8 marks)

Answer Guide:
(a) Opening receivable N25,000 + Commission earned N360,000 = N385,000 (2 marks)
(b) Total due N385,000 – Closing receivable N35,000 = N350,000 cash received (3 marks)
(c) Closing receivable of N35,000 should be shown as current asset in balance sheet (3 marks)

Question 3: State four examples of income receivable and explain why they are added to gross profit when preparing profit and loss account. (6 marks)

Answer Guide:
– Examples: Interest receivable, Rent receivable, Commission receivable, Discount receivable (2 marks for any 4)
– They are income earned by the business in the accounting period (2 marks)
– They increase the total income of the business (1 mark)
– Following accrual concept, income is recorded when earned, not when cash is received (1 mark)

Memory Aids

RAD for Receivables:
R – Receivable (money owed TO you)
A – Asset (show in balance sheet)
D – ADD to profit (increases income)

The “Owe Me” Rule:
If someone OWES ME = Asset (Receivable)
If I OWE someone = Liability (Payable)

Adjustment Formula:
Opening Receivable + Income Earned – Closing Receivable = Cash Received
(Think: What I was owed + What I earned – What I’m still owed = What I got)

Related Topics

• Accruals and Prepayments
• Final Accounts Preparation
• Current Assets and Current Liabilities
• Adjustments in Financial Statements
• Balance Sheet Preparation