If you plan on running a business of your own (or if you’re currently running a small business), then one of the first business administration tasks you need to learn is on how to come up with an accurate balance sheet. Essentially, a balance sheet shows your assets such as your cash reserves, your accounts receivables, your loans receivables, your equipment, and your inventory. It also shows your liabilities, such as your debts and your projected expenses.
So how do loans receivables enter into the picture? The loans receivable is the sum of money you have sent out as a loan that you haven’t collected yet. So if you’re running a bank or a lending institution, this sum is the money you lent out which you expect to get back. And if you’re earning interest on that sum, that interest goes into the balance sheet as part of the owner’s equity.
Here are some facts you may find interesting:
- Loans receivable are related to accounts receivable, because you usually give your customers time to settle their accounts. So if you give them 30 or 90 days to pay instead of making them pay up front, it’s as if you lent them the money for 30 or 90 days.
- It’s not only banks and lending institutions which can offer loans to customers. For example, some equipment manufacturers may offer payment terms to their customers which allow the customers to make regular monthly payments for 6 months or a year. This may also be considered a loan receivable.
- Long term loans receivables may be difficult to use as collateral for financing. The reason why factors prefer accounts receivables is that they typically need only 30 days before payment is due. It’s very rare to give 60 day or 90 day payments, unless it is an industry such as health care where even 120 days to pay is not unheard of. But factors may not tolerate waiting for an entire year before the receivables are settled.
- Your balance sheet should also reflect what you think is the most probable outcome regarding the payment of the loan. So if you think that $10,000 of a $30,000 loan receivable will not be repaid by the customer, then your balance sheet should reflect this by reducing the account by $10,000.
This is different for tax accounting, however. In tax accounting, the Internal Revenue Service would rather you wait for definite proof that the amount will go unpaid before you report it as a bad debt.
So why should you learn about loans receivables and balance sheets? If you’re running a business, the balance sheet gives you an accurate idea as to how profitable your company is and how valuable it is now. This can be very important when you are applying for a bank loan, because your balance sheet is one of the documents they will look at closely.
The balance sheet will also be important if you’re selling equity in your company to get additional financing. So if you’re planning to sell 10% of your company to get the capital you need, then you need the balance sheet to know how much your company is really worth as a whole.