Issue of Debentures | ISC Class 12 Accounts Notes

This note covers the journal entries for issuing debentures at par, at a premium and at a discount under the Companies Act, 2013, issue for consideration other than cash (to vendors, promoters and underwriters), issue as collateral security, the accounting entries when debentures are redeemable at par or at a premium, calls in arrears and calls in advance with interest, interest on debentures including tax deducted at source, disclosure of debentures in the balance sheet, and the writing off of discount or loss on issue of debentures.

How are debentures issued at par, at premium and at discount under the Companies Act, 2013?

The procedure for issuing debentures resembles that for issuing shares: investors apply on the basis of a prospectus, and the amount may be collected wholly on application or in instalments on application, allotment and calls.

Debentures can be issued at par, at a premium or at a discount, and also for consideration other than cash or as collateral security.

How is a debenture issue recorded at par?

Issue at par = issue price equal to face value. When the whole amount is received in one instalment, the entries are: Bank A/c Dr., To Debenture Application & Allotment A/c (on receipt of application money); and Debenture Application & Allotment A/c Dr., To Debentures A/c (on allotment).

When collected in two instalments, separate application and allotment accounts are opened and closed in sequence.

How is a debenture issue recorded at a discount?

Issue price at discount = Face value − Discount. A debenture is issued at a discount when its issue price is below its nominal value; for example, a ₹100 debenture issued at ₹95 carries a discount of ₹5.

The Companies Act, 2013 does not impose any restriction on issuing debentures at a discount. The discount is debited to a Discount on Issue of Debentures account at allotment.

How is a debenture issue recorded at a premium?

Issue price at premium = Face value + Premium. A debenture is issued at a premium when the price charged exceeds its nominal value; for example, a ₹100 debenture issued for ₹110 carries a premium of ₹10.

The premium is credited to the Securities Premium account and shown on the liabilities side under "Reserves and Surplus".

Worked example 1. ABC Limited issued 10,000, 12% debentures of ₹100 each, payable ₹30 on application and the remainder on allotment. The public applied for 9,000 debentures, which were fully allotted, and all allotment money was duly received. Record the journal entries and the balance sheet extract.

Answer: Bank A/c Dr. ₹2,70,000, To 12% Debenture Application A/c ₹2,70,000 (application money on 9,000 debentures). 12% Debenture Application A/c Dr. ₹2,70,000, To 12% Debentures A/c ₹2,70,000. 12% Debenture Allotment A/c Dr. ₹6,30,000, To 12% Debentures A/c ₹6,30,000 (₹70 per debenture due on allotment).

Bank A/c Dr. ₹6,30,000, To 12% Debenture Allotment A/c ₹6,30,000. Balance sheet: Non-current liabilities, Long-term borrowings (9,000, 12% Debentures of ₹100 each) ₹9,00,000; Current assets, Cash and cash equivalents ₹9,00,000.

Worked example 2. TV Components Ltd. issued 10,000, 12% debentures of ₹100 each at a discount of 5%, payable ₹40 on application and ₹55 on allotment. All instalments were duly collected. Show the journal entries and the relevant part of the balance sheet.

Answer: Bank A/c Dr. ₹4,00,000, To 12% Debenture Application A/c ₹4,00,000 (₹40 × 10,000). 12% Debenture Application A/c Dr. ₹4,00,000, To 12% Debentures A/c ₹4,00,000. 12% Debenture Allotment A/c Dr. ₹5,50,000 and Discount on Issue of Debentures A/c Dr. ₹50,000, To 12% Debentures A/c ₹6,00,000.

Bank A/c Dr. ₹5,50,000, To 12% Debenture Allotment A/c ₹5,50,000. Securities Premium / Statement of Profit and Loss A/c Dr. ₹50,000, To Discount on Issue of Debentures A/c ₹50,000 (discount written off).

Balance sheet shows Long-term borrowings ₹9,50,000 and Surplus (50,000) as a negative balance in Reserves and Surplus, with Cash and cash equivalents ₹9,50,000.

Worked example 3. XYZ Industries Ltd. issued 2,000, 10% debentures of ₹100 each at a premium of ₹10 per debenture, payable ₹50 on application and ₹60 on allotment. The issue was fully subscribed and all money was duly received. Record the entries and show the balance sheet extract.

Answer: Bank A/c Dr. ₹1,00,000, To 10% Debenture Application A/c ₹1,00,000. 10% Debenture Application A/c Dr. ₹1,00,000, To 10% Debentures A/c ₹1,00,000. 10% Debenture Allotment A/c Dr. ₹1,20,000, To 10% Debentures A/c ₹1,00,000, To Securities Premium A/c ₹20,000.

Bank A/c Dr. ₹1,20,000, To 10% Debenture Allotment A/c ₹1,20,000. Balance sheet: Reserves and Surplus (Securities Premium) ₹20,000; Long-term borrowings ₹2,00,000; Cash and cash equivalents ₹2,20,000.

What happens when the issue is over subscribed?

When applications exceed the number of debentures offered, the issue is over subscribed; a company cannot allot more debentures than offered, so excess application money is adjusted against allotment and calls, and any money from rejected applications is refunded.

How are debentures issued for consideration other than cash?

A company sometimes purchases assets, or an entire running business, and pays the vendor by issuing debentures instead of cash. This is called issue of debentures for consideration other than cash. Such debentures may be issued at par, at a premium or at a discount.

The entries are: (i) Sundry Assets A/c Dr., To Vendors (on purchase of assets); (ii) at par, Vendors Dr., To Debentures A/c; at a premium, Vendors Dr., To Debentures A/c, To Securities Premium A/c; at a discount, Vendors Dr. and Discount on Issue of Debentures A/c Dr., To Debentures A/c.

Number of debentures = Purchase consideration ÷ Issue price. For example, when a purchase consideration is to be discharged entirely by debentures, the number of debentures to be issued equals the purchase consideration divided by the issue price of one debenture (at par, discount or premium, as the case may be).

Where a company takes over an entire business, the purchase consideration equals the net assets taken over. Net assets = Assets taken over − Liabilities taken over.

If the value of debentures issued exceeds the net assets taken over, the difference is debited to Goodwill; if it is less, the difference is credited to Capital Reserve.

Worked example 4. Aashirward Company Limited purchased assets of book value ₹2,00,000 from another company and agreed to pay the purchase consideration by issuing 2,000, 10% debentures of ₹100 each at par. Record the journal entries.

Answer: Sundry Assets A/c Dr. ₹2,00,000, To Vendors ₹2,00,000 (assets purchased). Vendors Dr. ₹2,00,000, To 10% Debentures A/c ₹2,00,000 (2,000 debentures of ₹100 each allotted to the vendor as purchase consideration).

How are debentures issued to promoters and underwriters?

Debentures issued for consideration other than cash can similarly be allotted to promoters for services rendered in forming the company, or to underwriters in lieu of underwriting commission; in both cases the entry debits the promoter's or underwriter's account (in place of "Vendors") and credits Debentures A/c, with Securities Premium or Discount on Issue of Debentures used if the debentures are issued at a premium or discount.

Worked example 5. Sunrise Ltd. was formed with the help of promoters who were to be paid ₹1,10,000 for their services by issuing 10% debentures of ₹100 each at a premium of 10%. Record the journal entry.

Answer: Number of debentures = ₹1,10,000 ÷ ₹110 = 1,000 debentures. Promoters A/c Dr. ₹1,10,000, To 10% Debentures A/c ₹1,00,000, To Securities Premium A/c ₹10,000 (1,000 debentures of ₹100 each issued at a premium of 10% to the promoters for their services).

Worked example 6. Meridian Ltd. issued 8% debentures of ₹100 each at a discount of 5% to its underwriters in full settlement of underwriting commission of ₹95,000. Record the journal entry.

Answer: Number of debentures = ₹95,000 ÷ ₹95 = 1,000 debentures. Underwriters A/c Dr. ₹95,000, Discount on Issue of Debentures A/c Dr. ₹5,000, To 8% Debentures A/c ₹1,00,000 (1,000 debentures of ₹100 each issued at a discount of 5% to the underwriters for commission).

How is the issue of debentures as collateral security accounted for?

A collateral security is a subsidiary or additional security pledged along with a primary security when a company takes a loan or overdraft from a bank or financial institution.

If the realisable value of the primary security falls short of the loan amount, the lender can fall back on the collateral debentures, which may be presented for redemption or sold in the open market.

Two methods are used to record this issue.

1. First method: No journal entry is passed, since no liability is created at the time of issue; only a note is appended below the loan item in the balance sheet stating that it is secured by the issue of debentures as collateral security.
2. Second method: A journal entry is passed debiting Debenture Suspense A/c and crediting the Debentures account with the face value of the debentures issued.
3. The Debenture Suspense account is shown as a deduction from debentures under "Long-term borrowings" in the notes to accounts.
4. When the loan is repaid, the entry is reversed: Debentures A/c Dr., To Debenture Suspense A/c, cancelling the collateral issue.

Worked example 7. A company took a loan of ₹10,00,000 from Punjab National Bank and issued 10% debentures of ₹12,00,000 (₹100 each) as collateral security. Explain how the debentures should be dealt with in the books.

Answer: Under the first method, no entry is passed; the balance sheet shows Long-term borrowings ₹10,00,000 with a note that the bank loan is secured by the issue of 12,000, 10% debentures of ₹100 each as collateral security.

Under the second method, Debenture Suspense A/c Dr. ₹12,00,000, To 10% Debentures A/c ₹12,00,000 is passed; the notes to accounts show the bank loan ₹10,00,000, then 12,000, 10% debentures of ₹100 each ₹12,00,000, less Debenture Suspense ₹12,00,000, giving the same net figure of ₹10,00,000.

What entries are passed at issue when debentures are redeemable at par and at a premium?

Depending on the terms of issue and redemption, six combinations commonly arise: issued at par/discount/premium, each redeemable at par or at a premium.

How is the premium on redemption recorded?

Whenever debentures are redeemable at a premium, the premium payable is debited to Loss on Issue of Debentures, which is a provision shown under "Long-term Borrowings" (as Premium on Redemption of Debentures, a liability) until the debentures are actually redeemed.

Worked example 8. A Ltd. issued 2,000, 10% debentures of ₹100 each at a discount of 10%, redeemable at a premium of 10%. Give the journal entry for allotment.

Answer: Application money received = ₹1,80,000 (₹90 per debenture). On allotment: 10% Debenture Application & Allotment A/c Dr. ₹1,80,000, Loss on Issue of Debentures A/c Dr. ₹40,000, To 10% Debentures A/c ₹2,00,000, To Premium on Redemption of Debentures A/c ₹20,000.

The loss of ₹40,000 equals the ₹20,000 discount on issue plus the ₹20,000 premium on redemption.

How are calls in arrears and calls in advance, and interest on them, treated?

Calls in arrears arise when a debentureholder fails to pay the amount due on allotment or on a call by the due date; the unpaid amount is shown as a deduction from the corresponding called-up amount, and the company's articles may authorise interest to be charged on it until payment.

Calls in advance arise when a debentureholder pays an amount not yet called up; the company may credit this to a separate Calls in Advance account and pay interest on it until the amount is actually due.

Interest on calls in arrears, where charged, and interest on calls in advance, where paid, are governed by the rates fixed in the company's articles of association (commonly following the model rates in Table F of the Companies Act, 2013).

Interest received on calls in arrears is credited to the Statement of Profit and Loss as income, while interest paid on calls in advance is debited to it as an expense.

Worked example 9. Kavi Ltd. called ₹60 on allotment of its 12% debentures of ₹100 each. A holder of 100 debentures paid the full ₹100 in advance. Show the entry for the calls-in-advance amount received, ignoring interest.

Answer: Bank A/c Dr. ₹10,000, To Debenture Allotment A/c ₹6,000, To Calls in Advance A/c ₹4,000 (₹40 per debenture received in advance of the call not yet made, on 100 debentures).

How is interest on calls in arrears and calls in advance calculated and recorded?

Where the articles provide for interest, it is calculated on the amount involved for the period it remains unpaid or paid in advance, at the rate fixed in the articles. The entries are: Debentureholders A/c Dr., To Interest on Calls in Arrears A/c (interest charged on the holder); and Interest on Calls in Advance A/c Dr., To Debentureholders A/c (interest allowed to the holder).

Worked example 10. Meera Ltd. issued 10% debentures of ₹100 each, with ₹50 payable on application and ₹50 on allotment. A holder of 200 debentures did not pay the allotment money. The articles provide for interest on calls in arrears at 10% per annum, and the amount remained unpaid for three months. Record the entry for interest.

Answer: Amount in arrears = 200 × ₹50 = ₹10,000. Interest = ₹10,000 × 10/100 × 3/12 = ₹250. Debentureholders A/c Dr. ₹250, To Interest on Calls in Arrears A/c ₹250 (interest charged for three months at 10% per annum on the unpaid allotment money).

Worked example 11. In the same company, a holder of 400 debentures paid the allotment money of ₹50 per debenture at the time of application, six months before it fell due. The articles allow interest on calls in advance at 10% per annum. Record the entry for interest allowed.

Answer: Amount received in advance = 400 × ₹50 = ₹20,000. Interest = ₹20,000 × 10/100 × 6/12 = ₹1,000. Interest on Calls in Advance A/c Dr. ₹1,000, To Debentureholders A/c ₹1,000 (interest allowed for six months at 10% per annum on the amount paid in advance).

How is interest on debentures accounted for, including tax deducted at source?

A company must pay interest on debentures at the fixed percentage named in the debentures (for example, "8% debentures"), calculated on the nominal value, usually half-yearly, regardless of whether it has earned a profit, because interest is a charge against profit.

Under the Income Tax Act, 1961, the company must deduct income tax at the prescribed rate from interest payable on debentures where it exceeds the prescribed limit; this is called Tax Deducted at Source (TDS) and must be deposited with the tax authorities, and debentureholders can adjust it against their own tax liability.

What are the journal entries for debenture interest?

The accounting entries are: (i) Debenture Interest A/c Dr., To Income Tax Payable A/c, To Debentureholders A/c (interest due, net of TDS); (ii) Debentureholders A/c Dr., To Bank A/c (payment to holders);

(iii) Statement of Profit and Loss Dr., To Debenture Interest A/c (transfer at year end); (iv) Income Tax Payable A/c Dr., To Bank A/c (TDS deposited with the government).

Worked example 12. A Ltd. issued 2,000, 10% debentures of ₹100 each on 1 April and pays interest half-yearly on 30 September and 31 March, with TDS at 10%. Record the entry for interest due on 30 September.

Answer: Half-yearly interest = 10% of ₹2,00,000 × 6/12 = ₹10,000. Debenture Interest A/c Dr. ₹10,000, To Debentureholders A/c ₹9,000, To Income Tax Payable A/c ₹1,000 (interest due for six months, with tax of 10% deducted at source).

How are debentures disclosed in the company's balance sheet?

Debentures are shown on the Equity and Liabilities side under Non-current Liabilities, sub-head "Long-term borrowings", at their face value. The Securities Premium, when debentures are issued at a premium, is shown under Shareholders' Funds, sub-head "Reserves and Surplus".

Any balance of Discount on Issue of Debentures or Loss on Issue of Debentures not yet written off, to the extent it will be written off within 12 months of the balance sheet date (or the operating cycle), is shown under "Other Current Assets"; the remaining part is shown under "Other Non-Current Assets".

How do issue price and face value differ across the three cases?

(to draw) A horizontal axis marked with the face value (for example ₹100) as the reference line; bars or points above the line show premium issues (issue price greater than face value) and bars below the line show discount issues (issue price less than face value), illustrating that Securities Premium is credited only when the bar is above the line and Discount on Issue of Debentures is debited only when it is below.

(to draw) A bar chart with two bars for each case (at par, at discount, at premium): one bar showing cash received at issue, and a second bar showing the face value of the long-term borrowing created, so that for a discount issue the cash bar is shorter than the liability bar, and for a premium issue the cash bar is taller than the liability bar.

How is discount or loss on issue of debentures written off?

Discount or loss on issue of debentures is a capital loss and is written off in the year the debentures are issued.

It is first written off against any balance in Securities Premium (permitted under Section 52(2) of the Companies Act, 2013).

If capital profits do not exist or are inadequate, the remaining amount is written off against revenue profits through the Statement of Profit and Loss.

All capital losses are written off in the year in which they occur, in the sequence: first from Securities Premium, then from the Statement of Profit and Loss, and lastly from Capital Reserve.

The journal entry is: Securities Premium A/c Dr. (to the extent of balance available), Statement of Profit and Loss Dr. (for the balance), To Discount/Loss on Issue of Debentures A/c.

Worked example 13. On 1 July, a company issued 15,000, 9% debentures of ₹100 each at a 10% discount. It has a balance of ₹1,00,000 in Securities Premium. Show how the discount is written off.

Answer: Discount on issue = 10% of ₹15,00,000 = ₹1,50,000. Securities Premium A/c Dr. ₹1,00,000, Statement of Profit and Loss Dr. ₹50,000, To Discount on Issue of Debentures A/c ₹1,50,000 (discount written off, first against the premium balance and the remainder against profit and loss, following the required sequence).

What happens when Securities Premium and the Statement of Profit and Loss cannot absorb the whole loss?

When the balance in Securities Premium and the available profit are both exhausted, the remaining capital loss is written off against Capital Reserve, the last source in the required sequence. The entry then debits all three accounts and credits the Discount/Loss on Issue of Debentures account with the full amount.

Worked example 14. On 1 April, a company issued 10,000, 8% debentures of ₹100 each at a discount of 10%, redeemable at a premium of 5%. On 31 March it had a balance of ₹40,000 in Securities Premium, a profit of ₹30,000 available in the Statement of Profit and Loss, and a Capital Reserve of ₹1,00,000. Show the entry writing off the loss.

Answer: Discount on issue = 10% of ₹10,00,000 = ₹1,00,000; premium on redemption = 5% of ₹10,00,000 = ₹50,000; total loss = ₹1,50,000. Securities Premium A/c Dr. ₹40,000, Statement of Profit and Loss Dr. ₹30,000, Capital Reserve A/c Dr. ₹80,000, To Loss on Issue of Debentures A/c ₹1,50,000 (loss written off first from Securities Premium, then from the Statement of Profit and Loss, and the balance from Capital Reserve).

Going beyond the syllabus

These ideas extend the unit and are not needed for the questions on it.

What is a debenture and how does it differ from a share?

A debenture is a written instrument, issued under the common seal of the company, acknowledging a debt.

It contains a contract for repayment of the principal after a specified period (or at the company's option) and for payment of interest at a fixed rate, usually half-yearly or yearly on fixed dates.

Under Section 2(30) of the Companies Act, 2013, "debenture" includes debenture stock, bonds and any other instrument of a company evidencing a debt, whether or not they create a charge on the company's assets.

A bond is also an instrument acknowledging debt. Bonds were traditionally issued by government bodies, but semi-government and non-government organisations now also issue them, and the terms "debentures" and "bonds" are used interchangeably.

Definition: Debenture. A written acknowledgement of debt, under the company's seal, carrying a fixed rate of interest and a promise of repayment of principal after a specified period.

A debenture differs from a share on several counts. A share represents ownership capital; a debenture is only an acknowledgement of borrowed capital.

The return on shares is called dividend, which varies with profits and is an appropriation of profit; the return on debentures is called interest, which is fixed in advance and is a charge against profit payable even if there is no profit.

Shares are normally not returned during the company's life, whereas debentures are generally issued for a specified period and repaid on its expiry. Shareholders enjoy voting rights; debentureholders do not normally have any.

Shares carry no charge over assets, whereas debentures are generally secured by a fixed or floating charge.

Shares cannot be converted into debentures, but debentures can be converted into shares if the terms of issue provide for it, and such debentures are called convertible debentures.

What are the types of debentures?

Debentures may be classified from several points of view, as shown below.

A fixed charge is created on a specific asset held for use and not for sale, while a floating charge covers the general assets of the company excluding those already assigned to secured creditors.

What are the advantages and limitations of raising funds through debentures?

Debentures let a company raise long-term funds without diluting ownership or voting control, since debentureholders do not normally have voting rights.

Interest on debentures is a charge against profit and is tax-deductible for the company, unlike dividend, which is an appropriation of profit.

Debentures can be tailored (secured or unsecured, redeemable or irredeemable, convertible or non-convertible) to suit investors and the company's needs.

On the other hand, interest on debentures must be paid at the fixed rate even if the company earns no profit, which is a fixed burden on its finances.

Secured debentures create a charge over company assets, restricting the company's freedom to raise further loans against those assets. Heavy dependence on debentures increases financial risk through fixed interest and repayment obligations.

What are zero coupon debentures?

Zero coupon debentures carry no stated interest rate; investors are compensated by a substantial issue discount, and the difference between nominal value and issue price is treated economically as interest spread over the debenture's life, even though it is accounted for as a discount on issue rather than as periodic interest.

Glossary

• Debenture — a written instrument under the company's seal acknowledging a debt, carrying fixed interest and a promise of repayment of principal.
• Bond — an instrument of acknowledgement of debt, traditionally issued by government bodies and now used interchangeably with "debenture".
• Secured debenture — a debenture carrying a fixed or floating charge on the company's assets as security for repayment.
• Convertible debenture — a debenture that may be converted into equity shares or other securities on terms fixed at issue.
• Issue at par — issue of a debenture at a price equal to its face value.
• Issue at discount — issue of a debenture at a price below its face value, the shortfall being debited to Discount on Issue of Debentures.
• Issue at premium — issue of a debenture at a price above its face value, the excess being credited to Securities Premium.
• Securities Premium — a reserve credited with the premium received on issue of shares or debentures, shown under Reserves and Surplus.
• Collateral security — an additional security, such as debentures, pledged alongside a primary security when taking a loan.
• Debenture Suspense Account — an account debited when debentures are issued as collateral security, shown as a deduction from the debentures in the notes to accounts.
• Loss on Issue of Debentures — the capital loss arising when debentures are issued at a discount or are redeemable at a premium.
• Premium on Redemption of Debentures — a liability recognised at issue for the extra amount payable to holders at redemption, shown under long-term borrowings.
• Calls in arrears — the amount not paid by a debentureholder on an instalment that has become due.
• Calls in advance — the amount paid by a debentureholder before it has actually been called up by the company.
• Tax Deducted at Source (TDS) — income tax deducted by the company from interest payable, to be deposited with the tax authorities.

Common errors and misconceptions

• Misconception: Debenture interest can be skipped if the company makes no profit. Correct: Interest on debentures is a charge against profit and must be paid whether or not the company earns a profit.
• Misconception: Debentures issued as collateral security always create an entry in the books. Correct: Under the first method, no entry is passed; only a note is given in the balance sheet.
• Misconception: Discount on issue of debentures can always be written off against the Statement of Profit and Loss alone. Correct: It must first be written off against any balance in Securities Premium before using revenue profits.
• Misconception: A premium on issue and a premium on redemption are recorded the same way. Correct: Premium on issue is credited to Securities Premium, while premium on redemption is a future liability debited through Loss on Issue of Debentures.
• Misconception: Debentures issued for consideration other than cash can only go to vendors. Correct: They may equally be issued to promoters for services rendered or to underwriters for underwriting commission.
• Misconception: The whole of the discount on issue of debentures is always shown as a non-current asset. Correct: The portion to be written off within 12 months is shown under Other Current Assets, and only the rest under Other Non-Current Assets.
• Misconception: Capital Reserve can be used to write off the loss on issue before Securities Premium is exhausted. Correct: The order is Securities Premium first, then the Statement of Profit and Loss, and Capital Reserve only last.

Exam-style questions with model answers

Q1. Choose the correct option. Debentures issued as collateral security against a bank loan are recorded under the second method by debiting: (a) Debentures A/c (b) Debenture Suspense A/c (c) Bank A/c (d) Loss on Issue of Debentures A/c [1 mark]

1. Option (b), Debenture Suspense A/c.

Q2. State whether the following is true or false, giving a reason: "Premium on redemption of debentures is credited to Securities Premium." [2 marks]

1. False.
2. Premium on redemption is a liability payable at the time of redemption; it is credited to Premium on Redemption of Debentures A/c and debited to Loss on Issue of Debentures A/c, not to Securities Premium.

Q3. Pearl Ltd. issued 1,000, 9% debentures of ₹100 each at par, payable in full on application. Pass the journal entries. [2 marks]

1. Bank A/c Dr. ₹1,00,000, To 9% Debenture Application & Allotment A/c ₹1,00,000 (application money received in full).
2. 9% Debenture Application & Allotment A/c Dr. ₹1,00,000, To 9% Debentures A/c ₹1,00,000 (debentures allotted at par).

Q4. Vikram Ltd. purchased machinery worth ₹4,40,000 from Sunrise Suppliers and discharged the consideration by issuing 11% debentures of ₹100 each at a premium of 10%. Record the journal entries. [4 marks]

1. Machinery A/c Dr. ₹4,40,000, To Sunrise Suppliers ₹4,40,000 (machinery purchased on credit).
2. Number of debentures issued = Purchase consideration ÷ Issue price = ₹4,40,000 ÷ ₹110 = 4,000 debentures.
3. Sunrise Suppliers Dr. ₹4,40,000, To 11% Debentures A/c ₹4,00,000, To Securities Premium A/c ₹40,000.
4. The debentures (4,000 of ₹100 each) fully discharge the purchase consideration owed to the vendor.

Q5. Explain, with one journal entry each, how a company deals with debentures issued as collateral security under the two methods available. [4 marks]

1. A collateral security is an additional security pledged along with the primary security when a company takes a loan, so that the lender can fall back on it if the primary security falls short.
2. Under the first method, no journal entry is passed; the balance sheet merely carries a note below the loan item stating that it is secured by the issue of debentures as collateral security.
3. Under the second method, the entry passed is: Debenture Suspense A/c Dr., To Debentures A/c, with the face value of the debentures issued.
4. The Debenture Suspense account is then shown as a deduction from the debentures figure under "Long-term borrowings" in the notes to accounts, giving the same net liability as the first method.

Q6. Orion Ltd. issued 5,000, 8% debentures of ₹100 each at a discount of 5%, redeemable at a premium of 8%. Give the journal entry on allotment and state how much is debited to Loss on Issue of Debentures. [4 marks]

1. Application and allotment money received = 95% of ₹5,00,000 = ₹4,75,000.
2. Discount on issue = 5% of ₹5,00,000 = ₹25,000; premium on redemption = 8% of ₹5,00,000 = ₹40,000.
3. Entry: Debenture Application & Allotment A/c Dr. ₹4,75,000, Loss on Issue of Debentures A/c Dr. ₹65,000, To 8% Debentures A/c ₹5,00,000, To Premium on Redemption of Debentures A/c ₹40,000.
4. The amount debited to Loss on Issue of Debentures is ₹65,000, being the discount of ₹25,000 plus the premium on redemption of ₹40,000.

Q7. Distinguish between calls in arrears and calls in advance, with the treatment of interest on each. [3 marks]

1. Calls in arrears is the amount not paid by a debentureholder on an instalment already due, shown as a deduction from the amount called up; calls in advance is the amount paid before it is actually called up, credited to a separate account.
2. The company's articles may permit it to charge interest on calls in arrears until payment is received, which is credited to the Statement of Profit and Loss as income.
3. The company may similarly pay interest on calls in advance until the amount actually falls due, which is debited to the Statement of Profit and Loss as an expense.

Q8. Nalanda Ltd. issued 20,000, 10% debentures of ₹100 each on 1 April, with interest payable half-yearly on 30 September and 31 March, and TDS deducted at 10%. Pass the journal entries for interest due and its payment for the half year ended 30 September. [4 marks]

1. Interest for six months = 10% of ₹20,00,000 × 6/12 = ₹1,00,000; TDS at 10% = ₹10,000.
2. Debenture Interest A/c Dr. ₹1,00,000, To Debentureholders A/c ₹90,000, To Income Tax Payable A/c ₹10,000 (interest due, net of TDS).
3. Debentureholders A/c Dr. ₹90,000, To Bank A/c ₹90,000 (interest paid to holders).
4. Income Tax Payable A/c Dr. ₹10,000, To Bank A/c ₹10,000 (TDS deposited with the government).

Q9. Evaluate the following statement with figures: "A company that has exhausted its Securities Premium and its profit for the year cannot write off the loss on issue of debentures in the same year." [5 marks]

1. The statement is not correct, because Capital Reserve remains available as the last source in the required sequence.
2. All capital losses must be written off in the year in which they occur, first from Securities Premium, then from the Statement of Profit and Loss, and lastly from Capital Reserve.
3. Suppose a company issued 10,000, 8% debentures of ₹100 each at a discount of 10%, redeemable at a premium of 5%, giving a total loss of ₹1,50,000.
4. If Securities Premium is ₹40,000 and the profit available is ₹30,000, these two absorb only ₹70,000, leaving ₹80,000.
5. The balance of ₹80,000 is written off from Capital Reserve: Securities Premium A/c Dr. ₹40,000, Statement of Profit and Loss Dr. ₹30,000, Capital Reserve A/c Dr. ₹80,000, To Loss on Issue of Debentures A/c ₹1,50,000.
6. Thus the whole loss is written off in the same year, and no part of it is carried forward.

Key takeaways

• Debentures may be issued at par, at a premium (credited to Securities Premium) or at a discount (debited to Discount on Issue of Debentures).
• Debentures issued for consideration other than cash may go to vendors, promoters or underwriters, with entries matching those for shares issued the same way.
• Debentures issued as collateral security may be recorded by a note only, or by a Debenture Suspense Account entry, giving the same balance sheet figure.
• When debentures are redeemable at a premium, the premium is debited to Loss on Issue of Debentures and credited to Premium on Redemption of Debentures as a liability.
• Calls in arrears and calls in advance may both carry interest, as fixed by the company's articles, credited or debited respectively to the Statement of Profit and Loss.
• Interest on debentures is a charge against profit, paid net of tax deducted at source, which the company must deposit with the government.
• Debentures are disclosed under Long-term borrowings, premium under Reserves and Surplus, and any unwritten discount or loss under current or non-current assets depending on the period for writing it off.
• All capital losses on issue of debentures must be written off in the year they occur, first from Securities Premium, then Statement of Profit and Loss, and lastly Capital Reserve.

Test yourself

Why is the payment of interest on debentures called a "charge against profit"?

Because it must be paid whether or not the company earns a profit, unlike dividend, which is paid only out of available profits as an appropriation.

Under which section of the Companies Act, 2013 is "debenture" defined?

Section 2(30), which includes debenture stock, bonds and any other instrument of a company evidencing a debt, whether or not they create a charge on its assets.

How is Securities Premium used when discount on issue of debentures is written off?

The discount is first debited against any available balance in Securities Premium, and only the remaining uncovered amount is written off through the Statement of Profit and Loss.

What happens to a company's own debentures if they are used as collateral security and no entry is passed in the books?

A note is appended below the loan item in the balance sheet stating that the loan is secured by the issue of debentures as collateral security.

Give one example of debentures issued at a discount, stating the issue price.

A ₹100 debenture issued at ₹95 is issued at a 5% discount, since the issue price is below the face value by ₹5.

Who bears tax deducted at source on debenture interest, the company or the debentureholder?

The company deducts and deposits the tax, but it is the debentureholder's own tax liability, which the holder can adjust against the tax finally due from them.

Where is Premium on Redemption of Debentures shown in the balance sheet?

Under Non-current Liabilities, sub-head "Long-term borrowings", since it is a liability payable in the future when the debentures are redeemed.

In what order are capital losses on issue of debentures written off?

First from Securities Premium, then from the Statement of Profit and Loss, and lastly from Capital Reserve, all in the year in which the loss occurs.