Current Portion of Long Term Debt - Online Tutor, Practice Problems & Exam Prep

When a long-term loan is repaid in installments, the current portion of long-term debt becomes a current liability on the balance sheet. For example, if a company has a $100,000 note payable with annual $10,000 principal payments, the current portion due within one year is $10,000. Adjusting entries are made to reclassify this amount from long-term to current liabilities, while also accruing interest based on the outstanding principal. This process continues as the principal decreases, affecting future interest calculations and maintaining accurate financial reporting.

Current Portion of Long Term Debt

Sometimes when we take out a long-term loan, we might not pay it all at once in the future. Sometimes we make monthly payments or annual payments to repay the loan. Let's see how this affects the classification between current and long-term liabilities on our balance sheet. So, we might have what's called the current portion of long-term debt, okay? And this comes from the idea that some long-term debt must be repaid in installments. Okay? So we might not pay it all at once in the future as one lump sum, we might break it up into smaller payments over time. So what we call the current portion of long-term debt, well this is going to be a current liability. The current portion is the amount of principal. So remember, when we're talking about a note payable, we only care about the principal amount. We deal with the interest related to the note separately. So the focus here is on the principal and that's the principal that's payable within 1 year, right? When we were talking about current liabilities, well the current portion, it's going to be the principal that we have to pay back within 1 year, okay? So on the reporting date because what we usually do is we're just going to have a note payable account. We take out a note payable for $1,000,000 or we would have a credit, a long-term liability for the note payable as a long-term liability, but then when it comes time to report, we will make the calculation. Oh, how much of that liability is due within a year? And then we would reclassify some of that note into the current liabilities. So that's what we do, we reclassify any upcoming payments from long-term to current liabilities, okay?

So let's see how this works in an example. On January 2nd year 1, ABC Company signed a $100,000 long-term note payable. So let's just think about that real quick. What would happen when we took out this note on January 2nd year 1? For a lack of space, I'll do it right over here. We would have debited cash, right? We received cash and we would have credited note payable in the amount of $100,000 Debit cash, credit note payable. That's what we would have done when we first received the note, right? When we first received the cash from this loan. The note payable has a 10% interest rate and interest is payable each January 1st, so we're going to be paying back interest annually. The repayment schedule also denotes payment of principal on each January 1st of $10,000 for years 2 through 11. So instead of just waiting 10 years to repay the entire $100,000 amount, we're going to be paying it back in installments at $10,000 a year after each year on January 1st.

So we want to make necessary journal entries on December 31st, year 1 December 31st, year 2. So let's start here with year 1. On December 31st year 1, we have to think about 2 things. Our focus for this lesson is on the current portion of long-term debt, the principal amount. But we're also going to have to adjust for interest. So we'll go over that as well because these usually go hand in hand when we deal with these problems. But let's start with the current portion of the long-term debt. Okay? So the current portion, if you think about it, how many payments are we going to have within the next year? It's December 31st year 1, so between December 31st year 1 December 31st year 2, how much of that principal are we going to have to repay? Well, there's going to be that $10,000 payment on January 1st year 2, right? We're also going to have 1 on January 1st year 3, but that's not in 1 year, that's after 1 year. So the only current portion is this $10,000 that we're going to pay basically tomorrow on January 1st year 2. Okay? So that's going to be a current portion of our long-term debt.

So notice at this point, all of our debt is sitting in the note payable as a long-term liability. When we first made our journal entry, we would have credited note payable for $100,000 and had that as a long-term liability. So what we're going to do is we're going to reclassify. So this is going to be our reclassifying entry right here. And then we're going to deal with the interest separately. So to reclassify, what we're going to do is we're going to debit the note payable because we're going to reduce the long-term liability by the 10,000 that's due in the current portion, and then we're going to credit current portion of long-term debt. I'm going to do it like this to save space. Current portion of long-term debt, that's our credit. So we're creating a new liability in the current section. You see all we did was reclassify. We still owe $100,000 except instead of owing $100,000 in the long-term section, we took 10,000 out of the long-term and we moved it to the current section. So it's still all liabilities. It's just how we classified it.

Now let's deal with the interest because we have to do an interest payable entry as well, right? Because it's been a year and in this year, well, we've accrued some interest. We took the loan out on January 2nd, year 1 and a whole year has...

Current Portion of Long Term Debt (Year 2)

Alright. So now, let's consider the adjusting entries on December 31st, year 2. Another topic - I'm just going to write this and then erase it again for a lack of space, but this should be pretty obvious, as we've dealt with these types of things before. On January 1st, year 2, we would have made some journal entries, right? Because this is when we paid off that current portion of the long-term debt and also paid off this interest payable. We would've made a journal entry to get rid of the current portion, right? Because we're going to pay off on January 1st, we're going to get rid of the current portion of the long-term debt with a debit of $10,000 and we're going to credit cash, right, for $10,000. This is happening on January 1st, year 2. We're going to pay off that current portion. Remember, we're paying off the principal in $10,000 installments every year on January 1st, and we would have also paid off the interest payable that we have here from our interest entry. We had taken $10,000 in interest payable, well, that was also due on January 1st, year 2, and we would have got rid of that liability with a debit of $10,000 and we would have credited cash again because these are all payments that we made at that point, so we would have credited cash to get rid of that liability and we would have got rid of the current portion of long-term debt, okay? So that should make sense. This is basically what we've done before with adjusting entries, so let's go ahead and see what happens on December 31st, year 2. Okay?

So on December 31st, year 2, well now we're making adjusting entries again. We're going to need to reclassify some of our long-term debt to short-term and we're going to have to accrue for interest again. The interest is going to be a little different this year because we don't have as much principal left. That's going to be that's why I wanted to focus on this because you're going to see that the interest is a little less because we have less principal outstanding. Reclassification entry, let's start there where we're reclassifying some of our long-term debt into short-term debt, right? So again, remember at first we took out a $100,000 but we've paid back $10,000 so we only owe $90,000 left. Right now we still have a long-term liability for $90,000, but now we're going to have to get rid of another $10,000 of that into our current liabilities for the upcoming payment on January 1st, year 3, right? Because now we're in the 2nd year. So on December 31st, year 2, we would again do the same exact entry. We're going to debit our notes payable, right? We're going to reduce the long-term liability of notes payable by $10,000 with a debit and we're going to credit the current portion. We're going to create this liability again, current portion of long-term debt with a credit for $10,000. So it's the same entry that we made in January or excuse me, in December 31st, year 1. Well, we're making the same $10,000 payment in January 1st, year 3, so we need to reclassify another $10,000 from the long-term to the current portion at the end of year 2. Okay, so that's the same entry.

But now, let's think about the interest. So the interest is going to be kind of interesting right here, interesting interest. So let's think about how much is left that we owe. Let me get out of the way here. So in this case, the interest payment, well, we don't owe $100,000 anymore, right? We paid back on January 1st, we paid back $10,000 of that principal. So our principal in this case, it's $90,000 rather than $100,000, right? Because we've paid back already $10,000 of the principal, so we don't pay interest on the full $100,000 anymore. We only pay interest on the amount that we owe to them. So it's going to be $90,000 times 10% and there's only going to be $9,000 in interest this year, okay? So let's go ahead and see what our entry looks like. Our interest expense, well, it's going to be $9,000 this year, and our interest payable that we're going to pay off on January 1st the following year, well that's going to be $9,000 as well. And you can imagine each year as we pay off more and more of the principal, that interest expense is going to keep going down and down each year until we don't owe any more money and we've paid back all the principal. Cool?

So the same thing, we're just reclassifying some of our liabilities here, right? In our reclassification entry, just like before, we're taking some of the note payable and we're decreasing that by $10,000 and we're reclassifying it to the current portion. So all we're doing is making some of the long-term liability into a current liability since we have to pay it back sooner. The current portion of long-term debt isn't that crazy. Usually, when you see these in multiple-choice questions, all you got to focus on is how much are we paying back within the next year and that's going to be the current portion. How much is not due within the next year, that's the long-term portion.

Alright? So let's go ahead and pause here and you guys try the practice problem.

ABC Company is preparing the liabilities section of its December 31, 2018 balance sheet. Selected information includes $20,000 in accounts payable, $100,000 in bonds payable, $80,000 of short-term debt, $10,000 in wages payable, $10,000 in prepaid rent expense, and $20,000 of unearned revenue. Furthermore, on January 1, 2018, ABC Company signed a $60,000, 10% note payable with interest payable annually on December 31. The principal of the note payable is repaid in $10,000 annual installments on January 1 of each year. The total of ABC's current liabilities is:

• A. $300,000
• B. $240,000
• C. $150,000
• D. $140,000

Here’s what students ask on this topic:

What is the current portion of long-term debt?

The current portion of long-term debt is the amount of principal on a long-term loan that is due within the next year. This portion is classified as a current liability on the balance sheet. For example, if a company has a $100,000 note payable with annual $10,000 principal payments, the $10,000 due within the next year is considered the current portion of long-term debt. This reclassification helps in accurately representing the company's short-term financial obligations.

How do you reclassify long-term debt to current liabilities?

To reclassify long-term debt to current liabilities, you need to identify the portion of the principal that is due within the next year. For instance, if a company has a $100,000 note payable with $10,000 annual payments, you would debit the long-term note payable by $10,000 and credit the current portion of long-term debt by $10,000. This reclassification ensures that the balance sheet accurately reflects the company's short-term obligations.

Why is it important to reclassify the current portion of long-term debt?

Reclassifying the current portion of long-term debt is important for accurate financial reporting. It ensures that the balance sheet correctly reflects the company's short-term liabilities, providing a clear picture of its financial health. This information is crucial for stakeholders, including investors and creditors, as it helps them assess the company's ability to meet its short-term obligations and manage its cash flow effectively.

How does the current portion of long-term debt affect interest calculations?

The current portion of long-term debt affects interest calculations because the interest expense is based on the outstanding principal. As the principal decreases with each installment payment, the interest expense for subsequent periods also decreases. For example, if a company initially owes $100,000 at a 10% interest rate, the first year's interest is $10,000. After paying $10,000 of the principal, the remaining principal is $90,000, and the interest for the next year would be $9,000.

What journal entries are made for the current portion of long-term debt?

To account for the current portion of long-term debt, you make the following journal entries: First, reclassify the current portion by debiting the long-term note payable and crediting the current portion of long-term debt. For example, if $10,000 is due within the next year, you would debit the long-term note payable by $10,000 and credit the current portion of long-term debt by $10,000. Additionally, you need to accrue interest by debiting interest expense and crediting interest payable based on the outstanding principal.