Accounting Treatment of Bill of Exchange:

In business concerns, numerous bills of exchange are drawn and accepted. Special journals are used to record bills of exchange, called bill receivable journal and bill payable journal. From these two journals the totals are posted to bills receivable account and bills payable account respectively.

Every bill has two different aspects. To the drawer who has sold goods and wants to be paid for them, it is a bill receivable, he hopes to receive money on the due date. Such bills are recorded in the bills receivable journal. It is a sort of asset for the drawer and as good as money. To the acceptor of the bill, who has bought goods on credit and has agreed to honor the bill on the due date, it is a bill payable. The acceptor must arrange in due course the funds available to honor the bill when it falls due. Such bills are recorded in the bills payable journal.

Explanation with an Example:

We can understand the accounting of bills of exchange with the help of an example. Let us suppose, Mr X is a manufacturer of shoes and Mr. Y is a retail trader of shoes. Mr. Y (the buyer) wishes to buy shoes from the manufacturer but has no money. He is agreed to accept a bill of exchange for 90 days, if goods are sold to him on credit basis. So both the parties agreed. Mr. X supplies goods to Mr. Y worth $10,000 for a 90 days credit and draws upon him a bill for the full value of goods for 90 days on 1st Jan. 2005.

The illustration given above can be summarized below:

Mr. X becomes creditor and Mr. Y becomes debtor.
Acceptance received from Mr. Y.

There are three transactions which have taken place:

1. Mr. X sold goods to Mr. Y worth $10,000 on credit basis.
2. Mr. X drew a bill of exchange on Mr. Y for 90 days for $10,000.
3. On the due date the bill was presented to Mr. Y and he honored the bill (met his obligation on the due date)

Journal Entries:

Now we shall see how these transactions are recorded in journal of Mr. X and Mr. Y.

Mr. X's Journal

Transaction No.1

Mr. X sold goods to Mr. Y for $10,000 on credit. The journal entry is:

Transaction No. 2

Mr. Y drew a bill on Mr. X for 90 days. The journal entry is:

Transaction No. 3

On the due date acceptor honors the bill. The journal entry is:

Mr. Y's Journal

Transaction No.1

Bought goods from Mr. X for $ 10,000. The journal entry is:

Transaction No. 2

Acceptance given to Mr. X instead of paying him cash. The journal entry is:

Transaction No. 3

Acceptance is met (paid of due date). The journal entry is:

Different Uses of a Bill of Exchange:

In the above illustration, we just discussed only one use of a bill of exchange i.e., the drawer retained the bill with himself till due date and then presented to the acceptor, who honored the bill (paid cash to the drawer). Every drawer or receiver of a bill has three options for him.

1. He can retain the bill till the due date. (As discussed above).
2. He can send the bill to his bank for collection. Bank will present the bill before drawee on due date and will collect the amount for drawer. View accounting treatment for this option on "Bill of Exchange Sent to Bank for Collection" page
3. He can endorse the bill to one of his creditors in settlement of his own debts. View accounting treatment for this option on "Endorsement of Bill of Exchange" page
4. He can discount it with his bank if he is in need of money and cannot wait till the due date. View accounting treatment for this option on "Discounting of a Bill of Exchange" page

In the same way every acceptor has four possibilities.

1. He may pay the amount of bill on presentation. (As discussed above).
2. He may refuse to honor the bill. It is called dishonor of a bill of exchange. Read Dishonor of Bill of Exchange
3. He may request the drawer to renew the bill (extending the period of payment). Read Renewal of Bill of Exchange
4. He may get the bill retired. (paying his obligation before the due date). Read Retiring a Bill of Exchange Under Rebate.

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