Dishonor of Bill in Accounting and Business: Meaning, Example, Journal Entry & Importance

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Definition of Dishonor of Bill

The Dishonor of Bill refers to a situation when a bill of exchange is not accepted or paid by the drawee (the person liable to pay) on its maturity date. In simple terms, it is the failure of the debtor to meet the obligation of paying the bill as agreed.


Meaning of Dishonor of Bill in Detail

A bill of exchange is a negotiable instrument that serves as a written promise for payment of a certain sum at a future date. When the drawee (debtor) fails to honor this obligation by either refusing acceptance or failing to make payment on the due date, the bill is said to be dishonored.

Dishonor of a bill can occur for two primary reasons:

  • Non-acceptance: The drawee refuses to accept the bill when presented.

  • Non-payment: The drawee accepts the bill but fails to pay on maturity.

Dishonor of bills impacts business trust, credit reputation, and may even lead to legal consequences.


Types of Dishonor of Bill

  • Dishonor by Non-Acceptance: The bill is presented to the drawee, but he/she refuses to accept it.

  • Dishonor by Non-Payment: The drawee accepts the bill but fails to make payment on the maturity date.


Formula / Calculation (if applicable)

While there is no direct formula for dishonor of bill, the calculation typically involves determining the amount due including:

Amount Payable = Bill Amount + Noting Charges (if any)

Where:

  • Bill Amount = Face value of the bill

  • Noting Charges = Fees charged by a notary public when recording dishonor


Example Calculation

Suppose:

  • Bill Amount = ₹50,000

  • Noting Charges = ₹500

Amount Payable on Dishonor = 50,000 + 500 = ₹50,500

The drawee (debtor) becomes liable for ₹50,500.


Journal Entry for Dishonor of Bill

When a bill is dishonored, the following entry is made in the books of the holder (creditor):

Entry:

Debtor’s A/c     Dr.  
   To Bills Receivable A/c  
   To Bank/Noting Charges A/c (if any)

Example

A bill of ₹20,000 drawn by A on B is dishonored, noting charges of ₹200 incurred.

Journal Entry in A’s Books (Holder):

B’s A/c           Dr. ₹20,200  
   To Bills Receivable A/c     ₹20,000  
   To Bank A/c (Noting Charges) ₹200


Detailed Illustration

Suppose X sells goods worth ₹1,00,000 to Y. Y accepts a bill of exchange payable after 3 months. On the due date, Y fails to make payment and the bill is dishonored. Noting charges of ₹1,000 are incurred.

Calculation:

  • Bill Amount = ₹1,00,000

  • Noting Charges = ₹1,000

  • Total Due from Y = ₹1,01,000

Journal Entry in X’s Books (Creditor):

Y’s A/c             Dr. ₹1,01,000  
   To Bills Receivable A/c        ₹1,00,000  
   To Bank A/c (Noting Charges)   ₹1,000


Key Features / Characteristics of Dishonor of Bill

  • Indicates failure to meet financial obligation

  • Leads to loss of trust and goodwill in business

  • Often involves additional costs like noting charges

  • May result in legal proceedings for recovery

  • Affects the creditworthiness of the drawee


Importance / Role in Business

  • Credit Management: Helps businesses assess financial reliability of customers.

  • Risk Identification: Identifies defaulters and prevents future credit risks.

  • Legal Evidence: Dishonored bill serves as proof in courts for legal claims.

  • Cash Flow Planning: Alerts businesses about non-receipt of expected funds.


Advantages and Disadvantages

Advantages (Indirect Benefits)

  • Provides legal proof of non-payment.

  • Encourages businesses to maintain better credit discipline.

  • Helps businesses evaluate customer trustworthiness.

Disadvantages

  • Results in financial loss for the creditor.

  • Involves noting charges and sometimes legal expenses.

  • Damages business relationships between parties.

  • Affects credit score/reputation of the drawee.


Usage of Dishonor of Bill

  • Used in accounting records for proper financial reporting.

  • Applied in business transactions involving credit sales.

  • Plays a role in banking & trade finance to safeguard lenders.


Case Study Example

Case: Kingfisher Airlines Loan Default (India)

Kingfisher Airlines defaulted on bill payments and bank loans worth thousands of crores. The dishonor of bills and failure to repay loans led to:

  • Legal proceedings by banks

  • Collapse of the airline

  • Loss of credibility for its promoters

This real-world example shows how dishonor of financial obligations can destroy businesses.


Practical Example

A wholesaler sells goods worth ₹80,000 to a retailer, who accepts a bill payable after 90 days. On maturity, the retailer cannot pay. The bill is dishonored and noting charges of ₹800 are incurred.

  • Bill Amount = ₹80,000

  • Noting Charges = ₹800

  • Amount Due = ₹80,800

The retailer’s account is debited with ₹80,800 in the wholesaler’s books.


Common Mistakes or Misunderstandings

  • Believing dishonor always means fraud (sometimes it’s due to cash flow issues).

  • Forgetting to include noting charges in accounts.

  • Not maintaining proper documentation for legal use.

  • Treating dishonored bills as bad debts immediately (they may still be recoverable).


Real-Life Applications and Legal Implications

  • Business Credit: Helps in assessing which clients are reliable.

  • Banking Sector: Banks monitor dishonored bills to evaluate borrower credibility.

  • Legal Aspect: Under the Negotiable Instruments Act, 1881 (India), dishonor of bill can lead to penalties, fines, and even imprisonment.

  • Trade Finance: Protects exporters/importers by providing legal evidence of default.


Table: Dishonor of Bill Summary

AspectExplanation
DefinitionFailure of drawee to pay bill on due date
TypesNon-acceptance, Non-payment
ChargesNoting charges payable by drawee
Journal EntryDebtor A/c Dr. To Bills Receivable A/c, To Bank A/c
ImpactLegal consequences, loss of goodwill, cash flow issues


FAQs

Q1. What happens when a bill is dishonored?
The drawee fails to make payment, the holder records it as dishonor, and legal action may follow.

Q2. Who bears the noting charges?
The drawee (debtor) bears noting charges since they defaulted.

Q3. Is dishonor of bill a criminal offense?
Yes, under the Negotiable Instruments Act, 1881 in India, dishonor can lead to penalties and imprisonment.

Q4. How is dishonored bill recorded in accounting?
By debiting debtor’s account and crediting bills receivable & noting charges.

Q5. Can dishonored bills be reissued?
Yes, a fresh bill can be drawn if both parties agree.


Expert Tip from Learn with Manika

Always verify the financial credibility of clients before extending credit. Use trade references, bank guarantees, or partial advance payments to minimize risks of dishonor of bills.


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