Journal Entry for Pledging Accounts Receivable

Accounts receivable pledging is the process that a company uses the accounts receivable to finance for more cash. The company uses the accounts receivable as the collateral to obtain a loan from a third party.

Accounts receivable is the balance that company expects to collect based on the credit term. It happens the company sells on credit and customer are not yet paid to the supplier. They provide goods and services first then collect the money later.

Not all accounts receivable will be collected. Some customers may not able to pay the debt and go bankrupt. Some customers may delay the payment beyond the credit term.

The company needs enough cash flow to pay for the supplier, employees, and other parties. The company may have had enough profit but was liquidated due to the lack of money to pay for creditors and suppliers.

Due to these reasons, management may decide to use the accounts receivable as the collateral to obtain loans from other parties. They need the cash to operate the business so they borrow the money from the bank and pay back the principle plus interest. The bank must ensure that company has enough cash to pay back in the future. The company show the accounts receivable and use them as the collateral for the loan.

Company does not really transfer the accounts receivable to the lender. They just use it as security in case they are not able to pay back the loan. The company still have obligation to collect the accounts receivable. The accounts receivable are just used to ensure that company will have enough cash flow in the future which should be enough to pay back the principal and interest.

The bank or creditor will look at the accounts receivable aging to analyze if the company is able to collect the cashback. Long-term aging is highly likely to be a bad debt, so the company will not able to collect the cashback. And the bank will face a risk of loan default too.

Journal Entry for Pledging Receivable

When the company uses accounts receivable as the collateral to borrow a loan, they need to separate the exact amount of a specific account. It allows the reader to know which accounts receivable is used to pledge.

The journal entry is debiting accounts receivable pledging and credit accounts receivable. Both accounts are receivable, we just separate them for disclosure.

It is the movement of accounts receivable to another sub-account which use to present the pledging amount.  When the company collects cash from pledging receivable, the journal entry is the same as a normal receivable. We simply debit cash and credit receivable.

Another journal entry is made for the loan from the creditors. The company is debiting cash at the bank and credit loan to the creditor.

It is the same as a normal loan when the company receives cash from bank loan. The transaction will increase cash and increase long-term debt on the balance sheet.

On the maturity date, the company has obligation to pay back the loan plus interest.

Journal Entry for Pledge Receivable Example

Company ABC has accounts receivable balance of $ 100,000 and uses it to obtain a loan from a creditor.  After the assessment, the creditor agree to give a loan $ 80,000 and require to use the whole receivable as the collateral. The interest is $ 2,000 over the loan term of two months. The company has to pay back $ 82,000 at the end of 2^nd month.

The loan maturity date is prior to most of the accounts receivable. So the creditor can ensure that company payback the loan otherwise they will demand the accounts receivable to compensate for the default loan.

First, the company needs to reclass the accounts receivable to the pledging account. They simply debit accounts receivable pledging and credit normal receivable.

The transaction is the movement of the receivable account under accounts receivable.

Second, they have to record loan from the creditor. The journal entry is debiting cash/cash at bank and credit short-term loan.

This transaction will increase cash on balance sheet and recognize short-term debt.

Third, ABC needs to record interest expenses over the loan term. Creditor charge interest $ 2,000 over the period of two months. So the interest expense is $ 1,000 per month. They need to record interest expenses and credit short-term loan.

Interest expense will be present on the income statement and increase short-term loan which will be debited when company pays off on the maturity date.

Finally, on the maturity date, company needs to pay off the loan. The company need to debit loan $ 81,000, interest expense $ 1,000 and credit cash $ 82,000.

The transaction will decrease the outstanding loan on balance sheet $ 81,000 and recognize additional interest expense $ 1,000 for the second month. The cash will decrease by $ 82,000.

After the company settle the loan with creditor, they need to reclass the pledging accounts receivable back.