Unearned Interest
Categories: Bonds, Credit, Accounting
You make millions of dollars as a famous lecturer on matters of great philosophical weight. But you get the money mostly because you're extremely attractive and insist on delivering your lectures completely nude. Unearned interest.
Another kind relates to the accounting of money earned from lending.
Banks and other lending institutions make money by loaning out money. The bank makes the loan, handing out a big chunk of cash. It sets up a payment schedule, with each check the borrower sends consisting of some portion of interest and principal.
In concept, the process is pretty simple. However, the accounting for the loan can get intricate. As interest comes in, it's first listed as a liability. That categorization happens because, if the borrower pays the loan off early, the lender would have to return some of the interest they already paid. So, for a period of time, the interest amount sits on the books as a liability. Over time, though, some of the interest gets moved over to the income category. Once the lender knows a cerain amount won't have to get repaid under any circumstance, it can recognize the amount as income.
Unearned interest, then, represents the amount still in limbo. It's been collected, but it has to sit on the liability side of the balance sheet until it gets recognized. It's like a quarantine when someone flies in from some disease-infected island. They just have to hang out alone for a bit, until doctors are sure they aren't going to show any symptoms.
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Finance: What is Unearned Income?32 Views
finance a la shmoop what is unearned income all right wait how can you not [Man discussing unearned income]
earn income you have coming like is that a thing or is unearned income like the
dough all dead uncle Larry left you for bringing him his Scotch when you were [Girl gives uncle larry glass of scotch]
told and you know you were seven maybe not so let's start with earned income
like you mowed lawns all summer and you earned income on which you then paid [Boy mowing a lawn]
taxes got a nice tan and like what's better than the smell of fresh-cut grass
in the morning in the summer if you were in the lawnmowers Union and you struck [People protesting]
and then you got Union striker emergency monies that's earned ish got any tips
for doing all that mowing ten fifteen twenty percent yep earned got disability [Boy takes cash]
payments for when the mower ran over your foot and you know defeated you [Lawnmower runs over boys foot]
painful but well that'd be earned okay so then unearned income comes from
things like investment income realize a gain on a sale of stock that's unearned
even though yes you worked hard to save the money you invested it with risk and
you were smart and or lucky and it went up and then you sold it for a tidy [Share price graph appears]
profit but yes that's considered unearned because you just sat on your
fat Duff and collected your dough same deal with dividends your stock throw off
unearned you just sat there bond interest comes to you doing nothing for
it unearned like it's how rich people get richer are you an old geezer now in [An old man holding a fork]
your 70s well then your IRA distributions back to you their unearned
even though you never paid ordinary income taxes on them in the first place
that dough would have been considered earned income if you had not put it in
the IRA and just paid taxes on it and kept it same thing for any other pension
like funds you might have like a Keogh or a Cloverdale or something like that
and for insurance trusts as well that are basically just investments with
different colored wrapping paper yeah like plaid we like plaid so all of [Gifts with wrapping paper appear]
that is unearned well why does it matter like why do we even care whether
something is earned or unearned in the first place well
generally you pay taxes on a couple of flavors of earned income there are [Person scooping ice cream]
social security taxes which include things like Medicare and those are
called FICA and other similarly evil sounding terms in theory they're just [Uncle Sam poster on a wall]
deferred savings that are forced upon you by the government so you get them
taken out of your paycheck as a tax but we at shmoop here aren't holding our [Pay check appears and tax highlighted]
breath that will ever see Social Security holdings given back to us
without a large oxygen tank in our hand so yeah FICA futa that's just more tax [Man holding large oxygen tank]
so that's the first type of tax on earned income the other comes from
normal vanilla state income taxes well then we have unearned income taxation [Vanilla state income tax ice cream scoop]
which is a different animal altogether it's only taxed based on gains and
carries the vastly simpler investment system of Taxation which does not
include death by a thousand cuts in taxes in the form of Medicare Social [Taxes cut by scissors]
Security and all kinds of other government entitlement taxes that you
know turn your once lovely paycheck that you earned into an anemic thirsty camel [Camel drinking water]
so what go save a lot of money get a lot of unearned income so you can put your
feet up and watch football day in your seventies [Person with feet up watching TV]