In: Accounting
Logitech Corporation transferred $100,000 of accounts receivable to a local bank. The transfer was made without recourse. The local bank remits 85% of the factored amount to Logitech and retains the remaining 15%. When the bank collects the receivables, it will remit to Logitech the retained amount less a fee equal to 3% of the total amount factored.
What is the effect of this transaction on the company’s assets, liabilities, and income before income taxes?
Factoring of Receivables:
Factoring is defined as sale of accounts receivables to a factor which is a financial institution on charge of fee by any company. Sale of accounts receivable will be done in two ways such as sale without recourse and sale with recourse.
Sale without recourse:
Sale without recourse is defined as on sale of receivables, the buyer assumes the risk of uncollectibility which means the buyer has no recourse to the seller if customer doesn’t pay the receivables. The buyer charges fee on book value of receivables and it is treated as sale of asset.
Sale with recourse:
Sale with recourse is defined as on sale of receivables, the seller retains risk of uncollectibility which indicates that seller guarantees that the buyer will be paid even if some amount is uncollectible.
Show effect on assets, liabilities and income before income taxes due to factoring of receivables as follows:
Effect on Assets:
Hence, due to factoring of receivables without recourse, there is decrease of balance of assets by $7,000.
Effect on Liabilities:
Due to factoring of receivables, there will not be any effect on balance of liabilities.
Effect on Income before Income Taxes:
The company derives an amount of loss of $7,000 on sale of receivables which is shown on income statement. Due to recognition of loss in income statement, net income decreases by $7,000.
Record journal entry on sale of receivables as follows:
• On factoring of receivables, cash is received which results in increase of asset. Hence, cash account should be debited. As accounts receivable is transferred to the factor, accounts receivable decreases. Decrease in asset should be credited.
• On factoring, part amount of receivables is retained which is yet to be received. Hence, receivable from factor account should be debited.
• Loss on sale of receivables after deducting charge of fee decreases income. Hence, loss on sale of receivables account should be debited.