Accounts Receivable Financing Agreements • Pledging • Assigning • Factoring There are three basic forms of financing agreements to obtain cash from accounts receivable.
Accounts Receivable Financing Agreements Transfer Risks and Benefits of Ownership Transfer Some Risks and Benefits of Ownership Retain Risks and Benefits of Ownership Factor Pledge Assign (Collateral for Loans) (Specific Receivables with Recourse) (Sale without Recourse)
Pledging When a company pledges its accounts receivable, it is using these accounts as collateral for a loan, and the servicing activities remain its responsibility.
Assignment of Accounts Receivable When a company assigns its accounts receivable to a financial institution, it enters into a lending agreement with the institution to receive cash on specific customer accounts.
Assignment of Accounts Receivable On December 1, 2007, the Trussel Company assigned $60,000 of its accounts to a finance company. The finance company advances 80% of the accounts receivable assigned less a service charge of $500. It also charges an annual interest of 12% on any outstanding loan balance. Cash 47,500 Assignment Service Charge Expense 500 Notes Payable 48,000 ($60,000 x 0.80) - $500 $60,000 x 0.80 Accounts Receivable Assigned 60,000 Accounts Receivable 60,000
Assignment of Accounts Receivable On December 31, 2007, Trussel collects $10,000 on assigned accounts. This amount along with the 12% interest for one month is paid to the finance company. Cash 10,000 Accounts Receivable Assigned 10,000 Notes Payable 10,000 Interest Expense 480 Cash 10,480 $48,000 x 0.12 x 1/12
Factoring The FASB addressed these issues when it concluded in FASB Statement No. 140 that a transferor records the transfer of financial assets to the transferee as a sale when all of the following conditions are met: • The transferred assets have been isolated from the transferor. • The transferee obtains the right to exchange the transferred assets. • The transferor does not maintain effective control over the transferred assets through an agreement that entitles and obligates the transferor to repurchase the transferred assets before their maturity.
Factoring When a company factors its accounts receivable, it sells individual accounts to a financial institution (called a factor).
Factoring Farber Corporation sells $80,000 of accounts receivable to a factor, receives 90% of the value of the factored accounts, and is charged a 15% commission based on the gross amount of factored accounts receivable. ($80,000 x .90) - $12,000 Cash 60,000 Receivables from Factor 8,000 Factoring Expense 12,000 Accounts Receivable 80,000 $80,000 x 0.10 $80,000 x 0.15
Credit Card Sales • Many retail companies accept national credit cards, such as VISA, MasterCard, American Express and Diners’ Club. • The retailer either deposits the slips at the bank or receives an electronic transfer of funds from the credit card company. • The retailer is assessed a charge by the credit card company. • This charge is accounted for as an operating expense.
Credit Card Sales Assume that Kern Company sold $1,500 of merchandise on credit, which was billed to a national credit card company. If the collection fee is 5%, Kern Company makes the following journal entry: Cash 1,425 Credit Card Expense 75 Sales 1,500