F5:M6-Troubled Debt Restructuring

Question 1

When is a loan considered impaired?

Answer 1

When a loan is probabl (likely to occur) that the creditor will be unable to collect all amounts due under the original contract when due.

Question 2

What is an impairment?

Answer 2

The difference between the carrying value and present value of future cash flows using effective rate (to get discount factors).

Question 3

How is an impairment recorded?

Answer 3

By creating a valuation allowance with a recorresponding charge to bad debt expense:
Step 1: PV of future cash flows - PV of principal + PV coupon payments
Step 2: CV receivable - PVFCF (discounted) = Impairment

DR: Bad debt expense
CR: Allowance for credit losses

Question 4

What are 3 ways of restructuring debt?

Answer 4

Transfer of Assets (e.g., real estate, equipment)
Transfer of Equity (e.g., issuing stock to creditor)
Modification of Terms (e.g., reducing interest rate, extendign maturity)

Question 5

How is the gain on restructuring calculated when an asset or equity are transferred?

Answer 5

Gain = Carrying amount of liability − Fair value of asset or equity transferred

Only for transfer of an asset or equity.

Question 6

How is the gain on restructuring calculated when terms or modified?

Answer 6

Gain on restructuring = Carrying amount of debt − Undiscounted future cash payments

Question 7

How is the the gain/loss calculated on extinguishment of debt?

Answer 7

Gain / Loss = Reacquisition price - Net carrying amount

Question 8

Actual Problem

**TBS-731905 **
On 1/1/Year 1, Flint Co. (a U.S. GAAP company) issues an annual-pay, 10-year, $750,000, 4.25% coupon bond when market rates are 5.00%. The bond’s issuance price is $706,565. One year later, Flint redeems the bond at 94.

Answer 8

Question 9

When a bond is issued at a premium and redeemed at a discount, is there a gain or loss? Where is it reported under U.S. GAAP?

Answer 9

→ It results in a gain

Why? The carrying amount (higher due to the premium) is greater than the cash paid (discounted redemption).

Where reported? Income from continuing operations — even if unusual or infrequent.

🧠 Mnemonic:
“Premium in, discount out = gain goes to income.”

CarryingValue > CashPaid ⇒ Gain