On 1 July 2005 Jarrets Ltd borrows £500,000 from a British bank at an interest rate of 8 per cent,repayable in pounds sterling (£)and with interest due on 30 June each year.The term of the loan is 3 years.On the same date Fitners Ltd borrows $A1 million from an Australian bank at an interest rate of 10 per cent.The term of the loan is 3 years.Jarrets and Fitners decide to swap their interest and principal obligations on 1 July 2005.Exchange rate information is as follows: Both Jarrets and Fitners are Australian companies.What are the journal entries to record the swap for the period ended 30 June 2006 in Fitners Ltd's books (rounded to the nearest whole $A)?

Question

On 1 July 2005 Jarrets Ltd borrows £500,000 from a British bank at an interest rate of 8 per cent,repayable in pounds sterling (£)and with interest due on 30 June each year.The term of the loan is 3 years.On the same date Fitners Ltd borrows $A1 million from an Australian bank at an interest rate of 10 per cent.The term of the loan is 3 years.Jarrets and Fitners decide to swap their interest and principal obligations on 1 July 2005.Exchange rate information is as follows:  Both Jarrets and Fitners are Australian companies.What are the journal entries to record the swap for the period ended 30 June 2006 in Fitners Ltd's books (rounded to the nearest whole $A)?

Quizplus · Accepted Answer

To record the swap, Fitners Ltd would need to make the following journal entries:

1. On 1 July 2005, when the swap is initiated:
Dr Loan payable - Jarrets Ltd (current liability) $A1,000,000
Cr Loan payable - British bank (current liability) $A1,000,000

2. On 30 June 2006, when the first interest payment is due:
Dr Interest expense $A100,000
Cr Cash $A100,000

3. On the same day, to settle the interest payment with Jarrets Ltd:
Dr Loan payable - Jarrets Ltd $A80,000
Cr Cash $A80,000

Note: To calculate the interest payment, Fitners Ltd would need to convert the £500,000 loan using the exchange rate provided (1 AUD = 0.4455 GBP), and then apply the 8% interest rate. This gives an interest payment of $A100,000, which is then swapped with Jarrets Ltd for their AUD interest payment of $A80,000 (calculated using the same process but with the 10% interest rate). The net effect of the swap is that Fitners Ltd pays less interest in AUD, while Jarrets Ltd pays less interest in GBP.

On 1 July 2005 Jarrets Ltd Borrows £500,000 from a British