Concepts and Accounting Treatment

A bill is said to be 'dishonored' when the drawee, upon presentation, either refuses to accept it (dishonor by non-acceptance) or fails to pay the amount on its due date (dishonor by non-payment). In such a scenario, the original debtor-creditor relationship is re-established.

Accounting Implications:

In the Books of the Drawer (Holder of the Bill):

1. If the bill was retained till maturity:
   Debtor's Personal A/c Dr.
   To Bills Receivable A/c
   (Being bill dishonored on maturity, original debtor reinstated)

2. If the bill was discounted with the bank:
   Debtor's Personal A/c Dr.
   To Bank A/c
   (Being discounted bill dishonored, bank debits drawer's account)

3. If the bill was endorsed to a third party:
   Debtor's Personal A/c Dr.
   To Endorsee's Personal A/c
   (Being endorsed bill dishonored, endorsee claims from drawer)

In the Books of the Drawee (Acceptor):

1. On dishonor of the bill:
   Bills Payable A/c Dr.
   To Creditor's Personal A/c
   (Being bill dishonored, original creditor reinstated)

Any noting charges incurred by the holder due to dishonor are initially paid by the holder but are ultimately recoverable from the drawee.

Noting is the act of getting the fact of dishonour recorded by a Notary Public on the bill itself or on a paper attached to it. It provides authentic evidence of dishonour and the reasons for it. Protesting is a more formal and elaborate procedure than noting, where a Notary Public certifies the dishonour of the bill by drawing up a formal certificate called a 'protest'. This is usually required for foreign bills or when legal action is anticipated. Both acts serve as legal proof of dishonour. The expenses incurred for noting and protesting (noting charges/protest charges) are initially paid by the holder of the bill but are ultimately recoverable from the party primarily liable for the dishonour, i.e., the drawee/acceptor. In the books, these charges are debited to the drawee's account by the drawer.

When a bill is sent to the bank for collection, it means the holder (drawer or payee) instructs their bank to present the bill to the drawee on the maturity date and collect the payment. This is not discounting, as the holder does not receive immediate funds. In the books of the Drawer (Holder), two entries are typically passed:

1. On sending the bill: Bills Sent for Collection A/c Dr. to Bills Receivable A/c Cr. (This transfers the bill from Bills Receivable to a temporary 'Bills Sent for Collection' account).
2. On collection by bank: Bank A/c Dr. (with the amount collected, less any bank charges) and Bank Charges A/c Dr. (if any), to Bills Sent for Collection A/c Cr. (This closes the temporary account and records the receipt of cash). The Drawee (Acceptor) is unaffected by this arrangement and simply passes the entry: Bills Payable A/c Dr. to Bank A/c Cr. on maturity.

When a Bill of Exchange is discounted with a bank, the holder (drawer or payee) receives payment from the bank before the maturity date, less a discount charge. This is a common way to obtain immediate funds. In the books of the Drawer (Holder), the entry would be: Bank A/c Dr. (with the amount received), Discount A/c Dr. (with the discount charges), to Bills Receivable A/c Cr. (with the full face value of the bill). The bank becomes the holder of the bill. The Drawee (Acceptor) is not affected by the discounting of the bill; their entry remains the same: Bills Payable A/c Dr. to Cash/Bank A/c Cr. on the maturity date, paying the bank.

In a Bill of Exchange, there are generally three parties:

1. Drawer: The person who draws or makes the bill and orders the drawee to pay.
2. Drawee: The person on whom the bill is drawn and who is ordered to pay. Upon accepting the bill, the drawee becomes the acceptor.
3. Payee: The person to whom the payment is to be made. The drawer can also be the payee.

In a Promissory Note, there are two primary parties:

1. Maker: The person who makes the note and promises to pay the specified sum of money. The maker is the primary debtor.
2. Payee: The person to whom the payment is to be made. The maker and payee cannot be the same person.

Additionally, both instruments can involve an Endorser (a holder who transfers the instrument by endorsement) and an Endorsee (the person to whom the instrument is endorsed).

The maturity date of a Bill of Exchange is calculated by adding the period for which the bill is drawn (e.g., 3 months, 60 days) to the date of drawing or date of acceptance (if payable 'after sight'). According to Section 22 of The Negotiable Instruments Act, 1881, three 'days of grace' must be added to the nominal due date to arrive at the actual maturity date. If the maturity date falls on a public holiday (e.g., Sunday, Republic Day), the bill will fall due on the immediately preceding business day. If it falls on an emergency holiday, the bill will fall due on the next succeeding business day.

When a bill is dishonoured, and the drawee requests for more time, the drawer may agree to 'renew' the bill. This involves canceling the old bill and drawing a new one. The accounting entries are:

1. For Dishonour of Old Bill:
   • Drawer's Books: Drawee A/c Dr. to Bills Receivable A/c Cr. (and to Bank A/c Cr. if discounted, or to Endorsee A/c Cr. if endorsed). Noting charges, if any, are also debited to Drawee A/c.
   • Drawee's Books: Bills Payable A/c Dr. to Drawer A/c Cr. Noting charges, if any, are debited to P&L or Drawer A/c.
2. For Interest on Renewal (if charged by Drawer):
   • Drawer's Books: Drawee A/c Dr. to Interest A/c Cr.
   • Drawee's Books: Interest A/c Dr. to Drawer A/c Cr.
3. For Drawing and Accepting New Bill:
   • Drawer's Books: Bills Receivable A/c Dr. to Drawee A/c Cr.
   • Drawee's Books: Drawer A/c Dr. to Bills Payable A/c Cr.
     Sometimes, a part payment might be received before the new bill is drawn, which would involve a separate cash entry.

When a Bill of Exchange is honored on its due date, the following journal entries are passed:

In the Books of the Drawer (Creditor):

1. On drawing and acceptance of the bill:
   Bills Receivable A/c Dr.
   To Debtor's Personal A/c
   (Being bill drawn on debtor and accepted)

2. On maturity, when the bill is honored:
   Bank/Cash A/c Dr.
   To Bills Receivable A/c
   (Being amount received on maturity of the bill)

In the Books of the Drawee (Debtor):

1. On acceptance of the bill:
   Creditor's Personal A/c Dr.
   To Bills Payable A/c
   (Being bill accepted in favor of creditor)

2. On maturity, when the bill is honored:
   Bills Payable A/c Dr.
   To Bank/Cash A/c
   (Being payment made on maturity of the bill)

Noting Charges: When a Bill of Exchange is dishonored, the holder may get the fact of dishonor legally recorded by a Notary Public. The fees charged by the Notary Public for this service are called noting charges. These charges are initially paid by the holder of the bill but are ultimately recoverable from the drawee (acceptor) who dishonored the bill.

• Accounting Treatment:
  • In the Books of the Holder (Drawer/Endorsee): Noting charges are debited to the Drawee's Personal Account (as they are recoverable from the drawee) and credited to Cash/Bank Account.
  • In the Books of the Drawee (Acceptor): Noting charges are debited to a 'Noting Charges A/c' (an expense) and credited to the Holder's Personal Account (as they are payable to the holder).

Rebate on Bills (Retiring a Bill Under Rebate): This occurs when the drawee (acceptor) makes payment of the bill before its due date. To encourage early payment, the holder may allow a discount, known as 'rebate on bills', for the unexpired period of the bill. This is essentially an interest allowance for early payment.

• Accounting Treatment:
  • In the Books of the Holder: The rebate allowed is an expense and is debited to 'Rebate on Bills A/c' (or Discount A/c).
  • In the Books of the Drawee: The rebate received is an income and is credited to 'Rebate on Bills A/c' (or Discount A/c).

An Accommodation Bill is a Bill of Exchange drawn, accepted, or endorsed without any underlying trade transaction or consideration, purely for the mutual financial accommodation of the parties involved. It is essentially a financial arrangement to raise funds, often by discounting the bill and sharing the proceeds. A Trade Bill, in contrast, arises from a genuine trade transaction (e.g., sale of goods). The accounting treatment for accommodation bills is more complex. While the initial entries for drawing/accepting are similar, the key difference lies in the treatment of discount and the sharing of proceeds/liability. For an accommodation bill, the discount is usually shared between the parties, and upon maturity, the party who received the funds is responsible for remitting their share to the other party to enable payment. This involves additional entries for sharing discount, remitting funds, and settling accounts between the accommodating parties, which are not present in a standard trade bill scenario.

Endorsement is the act of transferring the ownership of a Bill of Exchange from one person to another by signing on its back. In the books of the Endorser (the original holder who transfers the bill), the entry would be: Endorsee's Personal A/c Dr. to Bills Receivable A/c Cr. This removes the bill from the endorser's books and records the liability to the endorsee (if the bill is dishonoured later). In the books of the Endorsee (the person to whom the bill is transferred), the entry would be: Bills Receivable A/c Dr. to Endorser's Personal A/c Cr. This records the receipt of the bill and acknowledges the endorser as a creditor until the bill is realized.

The key differences between a Bill of Exchange and a Promissory Note are primarily based on their nature, parties involved, and the requirement of acceptance. A Bill of Exchange contains an unconditional order by the drawer to the drawee to pay a certain sum of money to a specified person or to the bearer. It typically involves three parties: the drawer (who makes the order), the drawee (who is ordered to pay), and the payee (to whom the payment is to be made). Acceptance by the drawee is generally required for a Bill of Exchange to become a valid instrument.

In contrast, a Promissory Note contains an unconditional undertaking (promise) by the maker to pay a certain sum of money to a specified person or to the bearer. It involves two parties: the maker (who makes the promise to pay) and the payee (to whom the payment is to be made). A Promissory Note does not require acceptance as the maker himself is the primary debtor and promises to pay. The maker and payee cannot be the same person in a Promissory Note.

For a Bill of Exchange, there are typically three parties:

1. Drawer: The person who draws the bill and orders the payment. This is usually the creditor.
2. Drawee: The person on whom the bill is drawn and who is ordered to pay. This is usually the debtor.
3. Payee: The person to whom the payment is to be made. The drawer can also be the payee, or it can be a third party.

For a Promissory Note, there are typically two parties:

1. Maker (or Promisor): The person who makes the note and promises to pay the specified sum. This is the debtor.
2. Payee (or Promisee): The person to whom the payment is to be made. This is the creditor.

A Bill of Exchange is an unconditional order in writing, signed by the drawer, directing a person (drawee) to pay a certain sum of money to a specified person or to the bearer. It involves three parties: drawer, drawee, and payee. A Promissory Note, on the other hand, is an unconditional undertaking in writing, signed by the maker, to pay a certain sum of money to a specified person or to the bearer. It involves two parties: maker and payee. The maker is the debtor and promises to pay, while in a Bill of Exchange, the drawer orders the drawee (debtor) to pay. The liability of the maker in a Promissory Note is primary and absolute, whereas the liability of the drawer in a Bill of Exchange is secondary and conditional upon the drawee's default. A Bill of Exchange requires acceptance by the drawee to become legally binding, while a Promissory Note does not require acceptance as the maker himself undertakes to pay.

A Bill of Exchange is said to be dishonoured when the drawee (acceptor) fails to make payment on its maturity date. This can happen either by non-acceptance (when presented for acceptance) or by non-payment (when presented for payment). In the books of the Drawer (Holder), upon dishonour, the bill account is reversed, and the drawee's personal account is debited again to show them as a debtor. Any noting charges incurred are also debited to the drawee. In the books of the Drawee (Acceptor), the Bills Payable account is debited (reversed), and the Drawer's personal account is credited to reinstate them as a creditor. Any noting charges are also debited to the expenses account or the Drawer's account if the Drawer is expected to recover them from the Drawee.