Bank loan is the most suitable source of funds for a business organization. A business firm needs money either for working capital or to purchase for fixed assets etc. and this requirement can be funded by the banks after providing the loans to the firm as secured loan or unsecured loan. The interest is being charged by bank from business firm for all the loans.  This interest is shown in account books under a separate head i.e. Bank Interest A/c or Interest on Bank Loan Account. Bank interest is a financial expenses. Therefore, it is indirect expenses and is shown in expenses side of profit and loss account.

Accounting Treatment of Bank Interest

Interest debited by bank directly:- Normally, business firm maintains the current account with the bank from whom it takes loans. The bank automatically debits the account of firm with the amount of interest on a particular date as agreed by both the parties. In this case the entry of bank interest will be as under:-

Debit:-    Bank Interest A/c

Credit:-  Bank A/c

Interest paid in cash:- It rarely happens that the interest paid in cash but some time if the cheque of interest dishonors or there is no sufficient fund in the bank of account of business firm for payment of interest, in that case the interest is paid in cash. The entry of interest paid in cash will be as under:-

Debit:- Bank Interest A/c

Credit:- Cash A/c

Interest paid by cheque of other bank:- In case of shortage of funds the firm can pay the interest through the cheque of other bank. The entry of this type of transaction will be as under:-

Debit:-    Bank Interest A/c

Credit:-  Bank A/c

Bank Interest Paid on Monthly Installments:- When we take the loan from any bank and repay in installment then in that case, the interest is debited at the time of payment of installment. Following entry shall be passed at the time of repayment of loan in installment:-

Debit:-  Bank Loan Account

Debit :- Bank Interest on Loan Account

Credit:- Bank Account

Treatment of Bank Interest Account in final accounts

Bank Interest Account is indirect expenses. Therefore, it will be shown in debit side of Profit and Loss Account.