Payment to creditors journal entry
Overview
In business, the company may owe some types of debts to the creditors such as suppliers, banks, or other lenders. Likewise, it needs to make the payment to creditors journal entry when the cash is paid out later to the creditors in order to settle those debts.
The debts that the company owes to the creditors may come with or without interest depending on the type of debt. For example, the company may make a credit purchase for its suppliers resulting in a short-term liability without interest attachment or it may borrow money from the bank resulting in a long-term liability with the interest attached.
Whether the company makes payments to settle short-term liability such as accounts payable or to settle the long-term liability such as note payable, the payment to creditors journal entry will reduce both total assets and total liabilities on the balance sheet of the company. After all, it is the result of cash outflow which reduces the total assets on the balance sheet as well as the result of removing all or portion of the debt which reduces the total liabilities.
Payment to creditors journal entry
The company can make the payment to creditors journal entry by debiting the payables account and crediting the cash account.
| Account | Debit | Credit |
|---|---|---|
| Payables | $$$ | |
| Cash | $$$ |
Payables account here can be accounts payable, note payable, loan payable, or other types of payables depending on the type of debts the company has as well as the name of the ledger account in the chart of accounts for the credit it owes.
For example, when the company borrows the money from the bank, it may record the debt as note payable or loan payable for the liability it owes to the bank. On the other hand, if the company purchases goods on credit from its supplier, it may record the liability as the accounts payable or the trade payable depending on which one it deems easier to manage.
Payment to creditors example
For example, on September 15, the company ABC purchases $5,000 goods on credit from one of its suppliers. The goods are the company ABC’s inventory and it uses the periodic inventory system.
Later, on October 10, the company ABC makes the $5,000 payment to its supplier in order to settle this debt.
What is the journal entry on September 15, when the company ABC makes the purchase on credit?
What is the journal entry on October 10, when the company ABC makes the payment to settle the debt?
Solution:
September 15
On September 15, when the company ABC makes the $5,000 purchase on credit from its supplier, it can record the purchase of goods as below:
| Account | Debit | Credit |
|---|---|---|
| Purchases | 5,000 | |
| Accounts payable | 5,000 |
The $5,000 debit of purchase here is due to the company ABC uses the periodic inventory system. If the company ABC used the perpetual inventory system, the record of $5,000 would be the debit of the inventory account instead.
October 10
On October 10, when the company makes the $5,000 payment to the supplier which is its creditor to settle the accounts payable that has been previously recorded, it can make the payment to creditors journal entry as below:
| Account | Debit | Credit |
|---|---|---|
| Accounts payable | 5,000 | |
| Cash | 5,000 |
After this journal entry, both total assets and total liabilities on the balance sheet of the company ABC will be reduced by $5,000 as of October 10.
Example 2
For another example, on January 1, the company ABC borrows money of $10,000 from a bank with an interest of 8% per annum. The company ABC is required to pay back both principal and interest on June 30, as the loan it borrows has a 6-month period of maturity.
What is the journal entry on January 1, when the company ABC receives the loan?
What is the journal entry on June 30, when the company ABC makes the payment back to the bank?
Solution:
January 1
On January 1, the company ABC can record the $10,000 of the money borrowed from the bank as the loan payable below:
| Account | Debit | Credit |
|---|---|---|
| Cash | 10,000 | |
| Loan payable | 10,000 |
June 30
On June 30, when the company makes the $10,000 payment back to its creditor which is the bank, it can make the payment to creditors journal entry as below:
| Account | Debit | Credit |
|---|---|---|
| Loan payable | 10,000 | |
| Cash | 10,000 |
Additionally, as the company also needs to pay the interest of $400 ($10,000 x 8% x 6/12), it also needs to record the interest expense in the journal entry as below:
| Account | Debit | Credit |
|---|---|---|
| Interest expense | 400 | |
| Cash | 400 |
