Issue and Redemption of Debentures
Issue
Debentures are long-term borrowings, usually secured. They may be issued at par, at a premium (credit Securities Premium) or at a discount (debit Discount on Issue of Debentures, written off against Securities Premium or Profit and Loss over the life of the debentures). They may also be issued as collateral security or for consideration other than cash. Interest is a charge against profit and is subject to TDS in the prescribed cases.
Redemption
Methods: lump sum payment, redemption in instalments, draw of lots, purchase in the open market, and conversion into shares or new debentures. A Debenture Redemption Reserve must be created out of free reserves - not out of revaluation reserves - and, for listed companies, 15% of the debentures maturing during the year must be invested in specified securities.
Worked example
10,000 9% debentures of ₹100 each issued at 96, redeemable at par after five years. Journal: Dr Bank 9,60,000; Dr Discount on Issue of Debentures 40,000; Cr 9% Debentures 10,00,000. Annual interest = 9% × 10,00,000 = ₹90,000. The discount is written off at ₹8,000 per year for five years.
Open-market purchase
If debentures are bought cum-interest, the quoted price includes accrued interest, which is debited to Debenture Interest; if ex-interest, the accrued interest is recorded separately. On cancellation of own debentures, any profit is a capital profit and is transferred to Capital Reserve.
Marks-losing traps
- Writing off the whole issue discount in the first year.
- Creating the Debenture Redemption Reserve out of capital reserves.
- Treating debenture interest as an appropriation of profit.
- Forgetting to accrue interest outstanding at year end.