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HMRC internal manual

Corporate Finance Manual

Old rules: loan relationships: authorised accounting methods: accruals basis: accruing discount

Allocating payments: accruing discount

This guidance applies to periods of account beginning before 1 January 2005

Discount arises where a security is issued for less than its redemption value. This is often known as original issue discount. FRS 4 requires that any discount, along with other costs, is spread so as to give a constant rate on the amount outstanding over the life of the instrument.

Example: borrower

AG Ltd issues a security for £400,000 with a redemption value of £500,000 in 5 years’ time.

The discount, £100,000, must be brought into the periods to which it relates, which is the 5-year life of the security, in order to conform to an authorised accruals basis.

AG Ltd should use an economic accruals method to conform to FRS 4.

Example: lender

KL Ltd purchases the security from AG Ltd. It has effectively paid £400,000 for the right to receive £500,000 in 5 years’ time. The discount receivable, £100,000, relates to the full 5 years and will be brought in using a ‘just and reasonable’ method to satisfy the requirements of an authorised accruals method.

Where there is some doubt about the time or amount of the redemption, the creditor may have to estimate the amount to be included.