Bills of Exchange: formula sheet

Key formulas

Bill of exchange: essential features

In writing + signed by drawer + unconditional order + fixed sum of money only + payable to a certain person or bearer + payable on demand or at a fixed or determinable future time

If any one feature is missing, the document is not a valid bill. The order must be to pay money only, not goods.

Parties to a bill

Drawer (maker of the bill) → orders → Drawee (acceptor after acceptance) → pays → Payee

Drawer and payee can be the same person. In a normal trade bill, drawer and drawee are different persons. Under Section 17 of the Negotiable Instruments Act, 1881, where the drawer and drawee are the same person, or the drawee is a fictitious person or one not competent to contract, the holder may treat the instrument, at his election, as either a bill of exchange or a promissory note.

Parties to a promissory note

Maker (debtor) promises → Payee (creditor)

Only two parties. No acceptance is needed. A note cannot be made payable to the bearer.

Bill vs note: nature

Bill = order to another person to pay; Note = promise by the signer to pay

This is the most tested difference.

Bill vs note: acceptance and liability

Bill needs acceptance by drawee; note does not. In a bill, the drawer's liability is secondary; in a note, the maker's liability is primary and absolute

Drawer of an accepted bill is liable only if the acceptor fails to pay.

Date of maturity

Date of maturity = Starting date + Term of bill + 3 days of grace

Use for bills payable after date or after sight (a stated period). No grace for bills payable on demand or at sight.

Starting date for bill after date

Starting date = Date of drawing of the bill

Do not count the starting day itself. Count from the next day.

Starting date for bill after sight

Starting date = Date of acceptance

The period starts on acceptance, not on drawing. A bill 'after sight' gets grace; a bill 'at sight' does not.

Term in months

Count calendar months from the starting date, then add 3 days

Example: 10 Mar + 3 months = 10 Jun, then maturity is 13 Jun.

Holiday rule

If maturity date is a public holiday (including Sunday), due date = preceding business day

Exception: if it is an emergency holiday declared at short notice, or a day that becomes a holiday, the due date is the next following business day.

Days remaining in months

Jan 31, Feb 28 (29 in leap year), Mar 31, Apr 30, May 31, Jun 30, Jul 31, Aug 31, Sep 30, Oct 31, Nov 30, Dec 31

Use these for day-based terms.

Credit sale settled by bill: drawer's books

Bills Receivable A/c Dr. ; To Drawee's (Debtor's) A/c

Passed on receiving the accepted bill. Debit Bills Receivable for the bill amount.

Credit purchase settled by bill: drawee's books

Drawer's (Creditor's) A/c Dr. ; To Bills Payable A/c

Passed on accepting the bill. Credit Bills Payable.

Honour on maturity: drawer

Bank A/c Dr. ; To Bills Receivable A/c

Passed on the due date when payment is received.

Honour on maturity: drawee

Bills Payable A/c Dr. ; To Bank A/c

Passed on the due date when payment is made.

Dishonour: drawer's entry

Drawee's A/c Dr. ; To Bills Receivable A/c

Revives the debt. Add noting charges to the drawee's account if the drawer pays them.

Dishonour: drawee's entry

Bills Payable A/c Dr. ; To Drawer's A/c

The liability goes back to the creditor.

Bills Receivable in ledger

Debit side: bills received; Credit side: bills honoured, dishonoured, endorsed, discounted

A normal asset account. A balance shows bills still in hand.

Discount on a bill

Discount = Face value of bill × Rate of discount % p.a. × Unexpired period (in years)

First count the nominal due date from the bill date and the term. Add 3 days of grace to get the legal due date. Then count the actual days from the discounting date to the legal due date and use days ÷ 365. Use months ÷ 12 only where the question gives the period in months.

Cash received from bank

Net proceeds = Face value of bill − Discount (− bank charges, if any)

Bank charges, if given, are also debited to the expense account.

Retaining till maturity

Bank A/c Dr; To Bills Receivable A/c (on due date)

Entry on receipt of acceptance: Bills Receivable A/c Dr; To Debtor A/c.

Discounting entry

Bank A/c Dr (net proceeds); Discount A/c Dr; To Bills Receivable A/c (face value)

The credit to Bills Receivable is the full face value of the bill.

Endorsement entry

Creditor A/c Dr; To Bills Receivable A/c

Debit the creditor with the bill's face value if it settles the debt in full.

Sent for collection

Bills Sent for Collection A/c Dr; To Bills Receivable A/c. On collection: Bank A/c Dr; Collection charges A/c Dr; To Bills Sent for Collection A/c

Some books credit Bills Receivable only on actual collection. Treatment varies, so follow the question's wording. The first entry is optional.

Dishonour entry in drawer's books (bill retained)

Drawee A/c Dr (bill amount) To Bills Receivable A/c

If noting charges are paid by the drawer, add them to the debit and credit Cash or Bank.

Dishonour of a discounted bill

Drawee A/c Dr To Bank A/c (bill amount + noting charges debited by the bank)

Bank is credited with the face value plus any noting charges the bank debits, and the drawee is debited with the same total. Discount already allowed to the bank is not reversed. It stays as an expense.

Dishonour of an endorsed bill

Drawee A/c Dr To Endorsee A/c

Endorsee is the party to whom the bill was endorsed, and the drawer again owes them.

Drawee's books on dishonour

Bills Payable A/c Dr To Drawer A/c (cancelling the acceptance). If the drawee bears noting charges: Noting Charges A/c Dr To Drawer A/c

Noting charges borne by the drawee are added to the amount owed to the drawer.

Interest on renewal

Interest = Amount × Rate ÷ 100 × Months ÷ 12

Use the period of extension and the rate given. Check whether the rate is per annum.

Amount of new bill

New bill = Old bill + Interest + Noting charges (if included) − Cash paid on renewal

Cash paid first reduces what is owed, then the balance goes into the new bill.

Renewal entries (drawer)

1) Drawee A/c Dr To Bills Receivable A/c 2) Drawee A/c Dr To Interest Received A/c (income) 3) Cash A/c Dr To Drawee A/c (part payment) 4) Bills Receivable A/c Dr To Drawee A/c (new bill)

The drawee's account should net to zero after the new bill is recorded.

Quick revision

• A bill of exchange is drawn by the drawer and must be accepted by the drawee to be binding.
• The drawer is the creditor who writes the bill; the drawee is the debtor who accepts it.
• Due date = date of the bill plus the term plus 3 days of grace, when the bill is not payable on demand.
• Under Section 25 of the NI Act, if the due date is a public holiday, the bill is due on the preceding business day; if it is an emergency holiday, it falls due on the next working day. Days of grace do not apply to bills payable on demand or at sight.
• Drawer records Bills Receivable; drawee records Bills Payable.
• On acceptance, the drawer debits Bills Receivable and credits the drawee; the drawee debits the drawer and credits Bills Payable.
• Discount is calculated on the full face value of the bill for the period from the date of discounting to the due date.
• On discounting, the drawer debits Bank and Discount, and credits Bills Receivable.
• On endorsement, the holder debits the creditor and credits Bills Receivable.
• On dishonour, in the drawer's books: - Retained bill: Dr Drawee (bill amount plus noting charges), Cr Bills Receivable (bill amount) and Cr Cash/Bank (noting charges paid). - Discounted bill: Dr Drawee (face value plus noting charges), Cr Bank (total paid to the bank). - Endorsed bill: Dr Drawee (bill amount plus noting charges), Cr Endorsee (bill amount) and Cr Cash/Bank (noting charges paid by the drawer). In the drawee's books, debit Bills Payable and credit the drawer; if the drawee bears the noting charges, add them to the amount credited to the drawer.
• On insolvency of the acceptor, first treat the bill as dishonoured: Dr Acceptor, Cr Bills Receivable (if retained), Bank (if discounted) or Endorsee (if endorsed). Then the holder (or the drawer, if the bill was discounted or endorsed and the drawer has to pay) debits Bank for the amount received from the estate and Bad Debts for the unpaid part, and credits the acceptor.
• An accommodation bill is drawn to help a party raise funds, with no real trade behind it.

Common mistakes

• Saying the drawer of a bill pays the amount. Fix: The drawer creates the bill and orders payment. The drawee, after acceptance, pays.
• Calling the drawee liable before acceptance. Fix: Until the drawee signs acceptance, he is not liable on the bill.
• Forgetting to add 3 days of grace. Fix: Make grace the last step of every calculation. Write +3 beside the term before you start.
• Counting the starting date as day 1. Fix: Exclude the date of drawing or acceptance. Count from the next day.
• Debiting Bills Payable in the drawer's books. Fix: Remember that for a bill the drawer has drawn on a debtor, the drawer records Bills Receivable, not Bills Payable.
• Passing an entry at the time of drawing, before acceptance. Fix: Record the bill only after the drawee accepts it. A bill not yet accepted is just an order.
• Crediting Bills Receivable with the net cash received on discounting. Fix: Credit Bills Receivable with the full face value. The difference between that and the cash is Discount, debited separately.
• Calculating discount on the unexpired period from the date of the bill. Fix: Count the period from the discounting date to the legal due date.
• Crediting Bank with the discounted amount instead of the full bill value on dishonour. Fix: The bank recovers the full face value. Credit Bank with the bill amount plus any bank charges.
• Reversing the discount charged earlier. Fix: Discount is a finance cost already incurred. Leave it in the Discount account.

Exam tips

• Questions often ask for the difference in one line. Learn: order vs promise, three parties vs two, acceptance needed vs not needed.
• Read each option for hidden conditions or payment in goods. These make an instrument invalid.
• Be clear about who plays which role when drawer and payee are the same person.
• Note that the drawee becomes the acceptor only after signing. Options may test this word change.
• There is no negative marking, so always attempt every question after eliminating wrong options.
• Check first whether the question says after date or after sight. This one word decides the starting date.
• Add the 3 days of grace in every time bill, including a bill payable a period after sight, unless the question says no grace.
• Do not add grace to a bill payable on demand or at sight (on presentation).