Tammy teaches business courses at the post-secondary and secondary level and has a master's of business administration in finance.
What is Interest Revenue?
There are two ways a company can earn interest revenue: by loaning money or by depositing and investing money. The first way is when a bank wants something in return for loaning money; that's considered one type of interest revenue (i.e. interest on loans). The other way of earning interest revenue is when a company deposits or invests money with a bank - the bank pays the company interest on the deposit or the investment.
Either way interest revenue is earned, it's reported on the company's income statement. In this lesson, we'll also explore two ways of earning interest revenue, and explain how interest revenue is recorded on the income statement.
Interest Revenue on Loans
Do you know someone who has a car payment? Those payments are comprised of two parts: the principal and the interest. The principal represents the amount borrowed, while the interest is the cost the bank charges to loan the money. Basically, the bank wants something in return for loaning a person money (i.e. interest).
Financial institutions such as banks consider interest income a major part of their revenue stream. They make quite a bit on loaning money for homes, buildings, cars, trucks, industrial equipment and more. When a company is in the business of charging interest, such as a bank, they will record interest revenue at the top of the income statement. This lets you know that this is a major source of income.
Interest Revenue on Deposits & Investments
Not all companies receive interest revenue as a major source of income. For example, a large electronic store's major source of income is from selling computers, tablets and smartphones. However, it's possible for them to have interest revenue. Companies, just like individuals, have checking and savings accounts. They also invest their money in interest-earning products.
Banks pay customers interest for depositing or investing their money, which is also considered interest revenue. Since the electronic store is in the technology business and not in the business of charging interest, their interest revenue is considered a minor source of income. Minor interest revenue should be reported in a category called 'Other Revenue and Expenses' on the income statement.
Recording Interest Revenue
Major and minor interest revenue is reported on the income statement in two different areas. Interest revenue can also be recorded in two different ways: by the accrual basis or cash basis method.
The accrual basis method allows a company to report interest revenue when it's earned. For example, if a bank is supposed to earn $5,000 in interest income in January, it can report the $5,000 on its income statement before it actually receives the money.
The other way to report interest revenue is on a cash basis. The cash basis method is defined as reporting the interest when you actually receive the cash. Once a company chooses how to report their revenue, they must use this option for the whole reporting period, which is usually a year.
Interest revenue can be defined as money earned through loaning money or money received from depositing or investing. Companies who charge interest on loans consider the interest revenue as a major source of income, which should be reported at the top of the income statement. When companies receive interest from their checking or savings accounts or from investing, this is considered a minor source of interest revenue and should be reported on the income statement in the 'Other Revenue and Expenses' section.
Interest revenue can be recorded in two ways: by the accrual basis or cash basis method. The accrual basis method allow companies to report interest revenue when it's earned, but not yet received. The cash basis method requires the interest revenue to be reported when the cash has been received. Companies choose how to report their interest revenue at the beginning of the accounting period, and must follow this option until the end of the accounting period.
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