CHAPTER 10
Interest Rate Floors
After studying this chapter you will be able to get a grasp of the following:
- Interest rate floors—description of the product
- Interest rate floor—to pay
- Interest rate floor—to receive
- Benefits of interest rate floor instruments
- Risks of a floor instrument
- Accounting for interest rate floors
- Trade life cycle of interest rate floors
- Accounting journal entries to be recorded during the different phases of the trade life cycle
- Illustration of investments in an interest rate floor instrument
- Preparation of general ledger accounts
- Preparation of income statement, balance sheet after the investment in an interest rate floor is made
- FX revaluation and FX translation process
- Functional currency, foreign currency and presentation currency
INTEREST RATE FLOORS—DESCRIPTION OF THE PRODUCT
Interest rate floors are a form of interest rate derivatives. These are over-the-counter derivatives that protect the holder from declines in short-term interest rates by making a payment to the buyer when an underlying reference rate falls below a specified rate, known as the floor rate or the strike rate. The holder of a floor instrument pays a premium to get protection from a decline in interest rates. For each period, the payment is determined by comparing the current level of the reference rate with the agreed floor rate. If the reference rate is below the floor rate, the payment is calculated with reference to the difference between the two rates, the length of the period, and the notional amount of the contract. Then the buyer of the instrument receives the interest and the writer of the instrument makes the payment. If the current interest rate is above the strike interest rate then no payment is made for that period.
Interest rate floor—to pay
Again interest rate floors are of two types—the first type being “to pay.” This means that for receiving an agreed premium the buyer of this type of instrument agrees to compensate the seller of the instrument on the pay date any interest falling below the floor rate, if the benchmark interest rate is below the floor rate on the reset date. The premium is computed like any other option premium based on some mathematical model that takes into account several factors including the strike rate (floor rate), the present benchmark interest rate, the historical volatility of interest rates, the time period of the contract, amongst other factors. The premium received is actually a liability that represents the net present value of the contract as on the date of inception of the contract.
Interest rate floor—to receive
The second type of interest rate floors is known as “to receive.” This means that for paying an agreed premium, the seller of this type of instrument agrees to compensate the buyer of the instrument on the pay date any interest below the floor rate if the benchmark interest rate is below the floor rate on the reset date. The premium paid is actually an asset that represents the net present value of the contract as on the date of inception of the contract.
Benefits of an interest rate floor instrument
- An interest rate floor contract enables investors who buy this instrument to retain the upside advantages of their variable rate investments while obtaining the protection from the interest rates falling below a specified minimum rate of interest by parting with a small premium.
- This type of financial instrument ensures variable rate investors obtain peace of mind from falling interest rates and become free to concentrate on other aspects of their business/investments, while at the same time reap the benefits of upward movements of interest rates.
- Floor contracts are flexible as they are over-the-counter products and are customized to suit the requirements of the parties to the trade. The strike rate can be positioned to reflect the level of protection sought by the buyer or willing to be written by the seller. However, the amount of premium payable is determined by the strike rate, the current reference rate of interest, and volatility of interest rates.
- Similarly the term of the floor is also flexible and can be customized to match the term of the underlying asset that is to be protected.
- For the buyer of this instrument, the cost is limited to the premium paid and theoretically like any other option contract the upward potential is huge.
Risks of a floor instrument
- For the buyer of this instrument, there are no risks associated with an interest rate floor instrument other than the counter-party risk.
- If the interest rates do not fall below the floor rate, the buyer of the floor instrument loses just the premium paid on such investment and nothing more than that.
- For a seller of the floor instrument, theoretically the potential loss is unlimited as for a small premium the risk exposure will be huge. The seller has to compensate the buyer for any decrease in the reference interest rate below the strike floor rate.
Interest rate floor as a hedging instrument
Being a derivative instrument, an interest rate floor per se qualifies as a hedging instrument. It should be noted that in an interest rate floor, the risk reward is asymmetric and can be more or less compared to an equity options position. An interest rate floor instrument can be used primarily to hedge interest rate risk.
It should be noted that the derivative financial instrument of an interest rate floor may be designated as a hedging instrument provided it is with an external party. Intra-group derivatives do not qualify as a hedging instrument in consolidated financial statements, although they may qualify in the separate financial statements of individual entities in the group. A derivative may be designated as a hedging instrument only in its entirety or as a proportion i.e., a percentage of the notional amount.
A to pay interest rate floor is like a written option contract where a premium is received and hence cannot be designated as a hedging instrument. A written option cannot be designated as a hedging instrument because the potential loss on an option that an entity writes could be significantly greater than the potential gain in value of a related hedged item.
A to receive type of interest rate floor is like a purchased option contract where a premium is paid to get protection from the rising interest rate and as such can be designated as a hedging instrument.
ACCOUNTING FOR INTEREST RATE FLOORS
In this chapter we will cover the accounting requirements for investments in interest rate floors. The list of relevant accounting standards are given in Table 10.1
Table 10.1 Relevant accounting standards
| US GAAP Topics | IFRS |
| 220—Comprehensive Income | IFRS 7—Financial Instruments: Disclosure |
| 815—Derivatives and Hedging | IFRS 9—Financial Instruments |
| 820—Fair Value Measurements and Disclosures | IAS 21—The Effects of Changes in Foreign Exchange Rates |
| 825—Financial Instruments | IAS 32—Financial Instruments: Presentation |
| 830—Foreign Currency Matters | IAS 39—Financial Instruments: Recognition and Measurement |
| 946—Financial Services—Investment Companies |
THE TRADE LIFE CYCLE FOR INTEREST RATE FLOORS
- Recording the trade—contingent
- Account for the premium on the trade
- Receive or pay the premium for the trade
- Reset the interest rate for the ensuing period
- Account for accrued interest if any on the valuation date
- Reverse the accrued interest if any on the coupon date
- Ascertain and account for the fair value on the valuation date
- Pay or receive interest on the pay date
- Termination of the trade and accounting for the termination fee
- Payment or receipt of the termination fee
- Maturity of the trade
- Reversal of the contingent entry on maturity/termination
- FX revaluation entries (for foreign currency trades)
- FX translation entries (for foreign currency trades)
To understand the trade life cycle events and the associated journal entries to be recorded on the respective dates, let us look at the illustration as shown in Table 10.2:
Table 10.2 Details of interest rate floor instrument
INTEREST RATE FLOOR INSTRUMENT—AN ILLUSTRATION
The details of interest rate floor instrument are given in Table 10.2 for the purpose of this illustration.
Recording the trade—contingent
This interest rate floor agreement is based on making a payment to the buyer of the instrument when a reference rate falls below the specified floor rate, the length of the period and the contract’s notional amount. As this is a notional amount and no physical exchange of money takes place, the investor has to pass an off balance sheet entry to record the transaction as shown in Table 10.3.
Table 10.3 At the inception of the interest rate floor contract
Account for the premium on the trade
The cost of the floor instrument on purchase is known as the non-refundable premium. The premium for an interest rate floor depends on the floor rate that the investor wants to get when compared to current market interest rates. The premium for an interest rate floor also depends on several other factors as this type of contract is very similar to that of an option contract, where the premium is based on the strike interest rate (floor rate), current interest rate, time to maturity of the contract, volatility—both historical and implied. When the contract is purchased then a premium is paid and when the contract is sold a premium is received. In a to pay contract a premium is received and the investor will have to pay interest whenever it falls below the floor rate. Similarly in a to receive contract a premium is paid by the investor and will receive interest whenever the interest rate falls below the floor rate.
The premium received in a to pay contract actually represents a liability and this is also the net present value of the contract as on the inception of the trade. But this is treated as an income on the date of entering into the contract and at every valuation date, the actual liability or the net present value of the contract is ascertained and an unrealized gain or loss entry passed for the same. This ensures that the income statement is eventually credited only with the real profit from the contract.
In this illustration, as this is a to pay contract the investor will receive a premium at inception of the trade. The premium is calculated as $1,708.77 and the accounting entry for recording the same is given in Table 10.4.
Table 10.4 On accounting for the premium on interest rate floor trade
Receive the premium for the trade
The premium on the trade is received within two business days of entering into the transaction and the entry for recording the same is as shown in Table 10.5.
Table 10.5 On receipt of the premium
Reset the interest rate for the ensuing period
Interest reset dates are agreed upon between the counterparties at the inception of the trade. On the reset dates the reference rate is compared with the floor rate to determine if interest is required to be paid by one party to the other. If the reference interest rate is below the strike rate then interest is payable by the buyer of this floor contract. Since only reset happens, no accounting entry is passed on this date.
Ascertain the interest accrued—payable/receivable on floor
If the reference interest rate is below the floor rate, then the buyer of the floor instrument should compensate the seller interest calculated as per the previous paragraphs. When it is ascertained on the reset date that the reference interest rate is below the floor rate and if the valuation date occurs before the pay date then interest accrued on such a floor instrument from the reset date to the valuation date should be computed and accounted for. This entry, however, will be reversed on the pay date when the actual interest calculated until the pay date from the reset date is accounted for. Table 10.6 gives the calculation of interest accrued and the necessary journal entry.
Table 10.6 On accounting of interest accrued on valuation date
Reverse the accrued interest if any on the coupon date
The accrued interest entry for the to pay interest rate floor contract recorded in the previous valuation date must be reversed on the next coupon date, when the actual interest until the coupon date will be accounted for. The next coupon date subsequent to the valuation date falls on 10th September and on that date the following entry will be recorded in the book of accounts for reversal of accrued interest, as shown in Table 10.7.
Table 10.7 On reversal of interest accrued on valuation date
Ascertain the fair value on valuation date
At the end of every reporting period the net present value of the interest rate floor instrument is ascertained and an entry is passed to record the value of the same. The net present value of the floor contract on 31st March amounts to a positive number of 13,955.00 and this is accounted for as unrealized gain/loss on the interest rate floor instrument. The accounting entry is as shown in Table 10.8:
Table 10.8 On valuation of the IRD floor contract
Pay/receive interest on pay date
On each pay date subsequent to the reset date, interest will be paid by the buyer only if the prevailing reference rate is below the floor rate. In other words, if the reference rate is above the floor rate, then nothing is paid or received under the floor and no settlement takes place. In this illustration the reference rate on 10th March is above the floor rate and as such no interest need be paid to the buyer of the interest rate floor contract by the investor. However, on 10th June, it is below the floor rate of 2.7 percent as the interest rate is 2.69563 percent on that date. Hence, the investor should pay the buyer of the floor instrument an amount calculated on the notional amount of the floor contract on the pay date, which is 10th September, as shown in Table 10.9.
Table 10.9 Calculation of interest on coupon date
Termination of the trade and accounting for termination fee
An interest rate floor contract can be terminated at any time by either one of the parties to contract. If the parties decide to terminate the contract, then the net present value of the contract would be computed based on the net present value of the contract on such date of termination and the termination fee will be paid by one party to the other party depending upon which party stands to gain and which party stands to lose if the contract is terminated on the said date without being allowed to subsist during the remaining life of the contract. Assuming in this example the present value of the contract on the date of termination, say, 14th October, is calculated as a positive number amounting to $5,900.00 and the counterparty to the contract will have to pay this termination fee to the investor.
The accounting entry that is recorded in the books of accounts is shown in Table 10.10.
Table 10.10 On accounting for termination fee
Payment or receipt of termination fee
The consideration for such termination is received on T + 2. The accounting entry that is recorded in the book of accounts is shown in Table 10.11.
Table 10.11 On settlement of termination fee
Maturity of the trade
If the trade is not terminated before the maturity date, the trade is matured automatically on the maturity date. No interest is payable or receivable after the maturity date. The net present value on the date of maturity of the interest rate floor contract would be zero as no cash flows subsist subsequent to the maturity date, unlike an early termination where subsequent to the termination date there would be cash flows both receivable and payable. On the maturity date of the trade, the contingent entry passed at the date of inception of the trade is reversed, as mentioned in the next paragraph.
Reversal of the contingent entry on termination or maturity
The floor can be terminated anytime before the maturity date. On termination or on maturity, the floor will be cancelled and the original off balance sheet entry passed at the time of inception of the contract is reversed, as shown in Table 10.12.
Table 10.12 On reversal of the contingent entry
COMPLETE SOLUTION TO ILLUSTRATION
T-1 On sale of interest rate floor contract—off balance sheet entry:
T-2 On accounting for premium on interest rate floor contract:
T-3 On accounting for receipt of the premium:
T-4 On valuation of interest rate floor as on date:
T-5 On reversal of net present value of interest rate floor:
T-6 On valuation of interest rate floor as on date:
T-7 On accounting of interest accrued on valuation date:
T-8 On reversal of interest accrued on valuation date:
T-9 On accounting of interest payable on interest rate floor:
T-10 On reversal of net present value of interest rate floor:
T-11 On reversal of contingent entry on termination:
PROBLEM 1: INTEREST RATE FLOOR—SALE OF FLOOR INSTRUMENT
SOLUTION TO PROBLEM 1: INTEREST RATE FLOOR
T-1 On purchase of interest rate floor trade:
T-2 On accounting for premium on purchase of interest rate floor trade:
T-3 On accounting of premium received at Bank account:
T-4 On valuation of interest rate floor as on date:
T-5 On accounting of interest accrued on valuation date:
T-6 On reversal of interest accrued on valuation date:
T-7 On accounting of interest on interest rate floor:
T-8 On reversal of net present value of interest rate floor:
T-9 On valuation of interest rate floor as on date:
T-10 On accounting of interest accrued on valuation date:
T-11 On reversal of interest accrued on valuation date:
T-12 On accounting of interest on interest rate floor:
T-13 On reversal of net present value of interest rate floor:
T-14 On valuation of interest rate floor as on date:
T-15 On accounting of interest accrued on valuation date:
T-16 On reversal of interest accrued on valuation date:
T-17 On reversal of net present value of interest rate floor:
T-18 On accounting of interest income on interest rate floor:
T-19 On reversal of contingent entry on maturity:
PROBLEM 2: INTEREST RATE FLOOR
SOLUTION TO PROBLEM 2: INTEREST RATE FLOOR
T-1 On purchase of interest rate floor trade:
T-2 On accounting for premium at the inception of interest rate floor trade:
T-3 On accounting for premium received:
T-4 On accounting of interest payable on interest rate floor:
T-5 On valuation of interest rate floor as on date:
T-6 On accounting of interest accrued on valuation date:
T-7 On reversal of interest accrued on valuation date:
T-8 On accounting of interest income on interest rate floor:
T-9 On reversal of net present value of interest rate floor:
T-10 On valuation of interest rate floor as on date:
T-11 On reversal of net present value of interest rate floor:
T-12 On valuation of interest rate floor as on date:
T-13 On reversal of net present value of interest rate floor:
T-14 On reversal of contingent entry on termination:
JOURNAL ENTRIES IN FUNCTIONAL CURRENCY PROBLEM 2: INTEREST RATE FLOOR
F-1 On purchase of interest rate floor trade: (T-1 @ FX Rate: 1.4587)
F-2 On accounting for premium at the inception of interest rate floor trade: (T-2 @ FX Rate: 1.4587)
F-3 On accounting of premium received at Bank account: (T-3 @ FX Rate: 1.4511)
F-4 FX Currency gain/loss:
F-5 On accounting of interest on interest rate floor: (T-4 @ FX Rate: 1.5360)
F-6 On valuation of interest rate floor as on date: (T-5 @ FX Rate: 1.5800)
F-7 On accounting of interest accrued on valuation date: (T-6 @ FX Rate: 1.5800)
F-8 On reversal of interest accrued on valuation date: (T-7 @ FX Rate: 1.5800)
F-9 On accounting of interest on interest rate floor: (T-8 @ FX Rate: 1.5760)
F-10 On reversal of net present value of interest rate floor: (T-9 @ FX Rate: 1.5800)
F-11 On valuation of interest rate floor as on date: (T-10 @ FX Rate: 1.5799)
F-12 On reversal of net present value of interest rate floor: (T-11 @ FX Rate: 1.5799)
F-13 On valuation of interest rate floor as on date: (T-12 @ FX Rate: 1.4449)
F-14 On reversal of net present value of interest rate floor: (T-13 @ FX Rate: 1.4449)
F-15 On reversal of contingent entry on termination: (T-14 @ FX Rate: 1.45870)
F-16 FX Gain/loss:
ILLUSTRATION: IRD FLOOR—RECEIVE
COMPREHENSIVE SOLUTION TO ILLUSTRATION
T-1 On purchase of interest rate floor trade:
T-2 On accounting for premium on purchase of interest rate floor trade:
T-3 On accounting for premium paid:
T-4 On valuation of interest rate floor as on date:
T-5 On accounting of interest accrued on valuation date:
T-6 On reversal of interest accrued on valuation date:
T-7 On accounting of interest income on interest rate floor:
T-8 On reversal of net present value of interest rate floor:
T-9 On valuation of interest rate floor as on date:
T-10 On accounting of interest accrued on valuation date:
T-11 On reversal of interest accrued on valuation date:
T-12 On accounting of interest income on interest rate floor:
T-13 On reversal of net present value of interest rate floor:
T-14 On valuation of interest rate floor as on date:
T-15 On accounting of interest accrued on valuation date:
T-16 On reversal of interest rate floor:
T-17 On accounting of interest income on interest rate floor:
T-18 On reversal of net present value of interest rate floor:
T-19 On reversal of contingent entry on termination:
PROBLEM 1: INTEREST RATE FLOOR (RECEIVE)
SOLUTION TO PROBLEM 1: INTEREST RATE FLOOR (RECEIVE)
T-1 On purchase of interest rate floor trade:
T-2 On accounting for premium on purchase of interest rate floor trade:
T-3 On accounting for premium paid:
T-4 On valuation of interest rate floor as on date:
T-5 On accounting of interest accrued on valuation date:
T-6 On reversal of interest accrued on valuation date:
T-7 On accounting of interest income on interest rate floor:
T-8 On reversal of net present value of interest rate floor:
T-9 On valuation of interest rate floor as on date:
T-10 On reversal of net present value of interest rate floor:
T-11 On valuation of interest rate floor as on date:
T-12 On reversal of net present value of interest rate floor:
T-13 On accounting of interest accrued on valuation date:
T-14 On reversal of interest accrued on valuation date:
T-15 On accounting of interest income on interest rate floor:
T-16 On reversal of contingent entry on termination:
PROBLEM 2: INTEREST RATE FLOOR (RECEIVE)
SOLUTION TO PROBLEM 2: INTEREST RATE FLOOR (RECEIVE)
T-1 On purchase of interest rate floor trade:
T-2 On accounting for premium on purchase of interest rate floor trade:
T-3 On accounting of premium paid:
T-4 On accounting of interest income on interest rate floor:
T-5 On valuation of interest rate floor as on date:
T-6 On accounting of interest accrued on valuation date:
T-7 On reversal of interest accrued on valuation date:
T-8 On accounting of interest income on interest rate floor:
T-9 On reversal of net present value of interest rate floor:
T-10 On valuation of interest rate floor as on date:
T-11 On reversal of net present value of interest rate floor:
T-12 On valuation of interest rate floor as on date:
T-13 On reversal of net present value of interest rate floor:
T-14 On reversal of contingent entry on termination:
ACCOUNTING ENTRIES IN FUNCTIONAL CURRENCY PROBLEM 2: INTEREST RATE FLOOR (RECEIVE)
F-1 On purchase of interest rate floor trade: (T-1 @ FX Rate: 1.4597)
F-2 On accounting for premium on purchase of interest rate floor trade: (T-2 @ FX Rate: 1.4597)
F-3 On accounting for premium paid: (T-3 @ FX Rate: 1.4726)
F-4 FX gain/loss:
F-5 On accounting of interest income on interest rate floor: (T-4 @ FX Rate: 1.5199)
F-6 On valuation of interest rate floor as on date: (T-5 @ FX Rate: 1.5800)
F-7 On accounting of interest accrued on valuation date: (T-6 @ FX Rate: 1.5800)
F-8 On reversal of interest accrued on valuation date: (T-7 @ FX Rate: 1.5800)
F-9 On accounting of interest income on interest rate floor: (T-8 @ FX Rate: 1.5529)
F-10 On reversal of net present value of interest rate floor: (T-9 @ FX Rate: 1.5800)
F-11 On valuation of interest rate floor as on date: (T-10 @ FX Rate: 1.5799)
F-12 On reversal of net present value of interest rate floor: (T-11 @ FX Rate: 1.5799)
F-13 On valuation of interest rate floor as on date: (T-12 @ FX Rate: 1.4449)
F-14 On reversal of net present value of interest rate floor: (T-13 @ FX Rate: 1.4449)
F-15 On reversal of contingent entry on termination: (T-14 @ FX Rate: 1.4597)
F-16 FX Gain/loss:
- Interest rate floors are a form of interest rate derivatives. These are over-the-counter derivatives that protect the holder from declines in short-term interest rates by making a payment to the buyer when an underlying reference rate falls below a specified rate, known as the floor rate or the strike rate. The holder of a floor instrument pays a premium for protection against decline in interest rates. For each period, the payment is determined by comparing the current level of the reference rate with the agreed floor rate. If the reference rate is below the floor rate, the payment is calculated with reference to the difference between the two rates, the length of the period, and the notional amount of the contract.
- Again interest rate floors are of two types—the first type being “to pay.” This means that for receiving an agreed premium, the buyer of this type of instrument agrees to compensate the seller of the instrument on the pay date any interest falling below the floor rate, if the benchmark interest rate is below the floor rate on the reset date. The premium is computed like any other option premium based on some mathematical model that takes into account several factors including the strike rate (floor rate), the present benchmark interest rate, the historical volatility of interest rates, the time period of the contract, amongst other factors.
- The second type of interest rate floors is known as “to receive.” This means that for paying an agreed premium, the seller of this type of instrument agrees to compensate the buyer of the instrument on the pay date any interest below the floor rate, if the benchmark interest rate is below the floor rate on the reset date.
- An interest rate floor contract enables investors who buy this instrument to retain the upside advantages of their variable rate investments while obtaining the protection from interest rates falling below a specified minimum rate of interest by parting with a small premium.
- This type of financial instrument ensures variable rate investors obtain peace of mind from falling interest rates and become free to concentrate on other aspects of their business/investments, while at the same time reap the benefits of upward movements of interest rates.
- Similarly the term of the floor is also flexible and can be customized to match the term of the underlying asset that is to be protected.
- For the buyer of this instrument, the cost is limited to the premium paid and theoretically, like any other option contract, the upward potential is huge.
- For the buyer of this instrument, there are no risks associated with an interest rate floor instrument other than the counter-party risk.
- If the interest rates do not fall below the floor rate, the buyer of the floor instrument loses just the premium paid on such investment and nothing more than that.
- Being a derivative instrument, an interest rate floor per se qualifies as a hedging instrument. It should be noted that in an interest rate floor, the risk reward is asymmetric and can be more or less compared to an equity options position. An interest rate floor instrument can be used primarily to hedge interest rate risk.
- A to pay interest rate floor is like a written option contract where a premium is received and hence cannot be designated as a hedging instrument. A written option cannot be designated as a hedging instrument because the potential loss on an option that an entity writes could be significantly greater than the potential gain in value of a related hedged item.
- A to receive type of interest rate floor is like a purchased option contract where a premium is paid to get protection from the rising interest rate and as such can be designated as a hedging instrument.
Theory questions
1. What is meant by “a floor” on an interest rate contract?
2. Can an interest rate floor contract be terminated before maturity? If so, how will the termination fees be arrived at?
3. When does an interest rate floor become “in the money” and when does it become “out of the money”?
4. What are the two types of interest rate floor contracts? Which type of contract gives the buyer protection from a fall in interest rates?
5. What are the significant events in the trade life cycle of an interest rate floor contract?
6. What are the benefits of an interest rate floor contract?
7. What are the risks associated with an interest rate floor contract?
8. Write the journal entry for accounting for the premium on the trade in an interest rate floor contract.
9. What are all the factors that should be considered for calculating an interest rate floor premium?
Objective questions
1. Floors are purchased for a ____.
a) Discount
b) Premium
c) Market rate
d) None of the above
2. If the reference rate is below the floor rate, the payment is based upon the difference between _____.
a) The two rates
b) The length of the period
c) The contract’s notional amount
d) All of the above
3. An interest rate floor enables variable rate investors to retain the upside advantages of their variable rate investment while obtaining the comfort of a known _____.
a) Maximum interest rate
b) Minimum interest rate
c) Benchmark interest rate
d) None of the above
4. It is important to understand that if interest rates do not fall below the______, you have not obtained any benefit from the purchase of the floor.
a) Reference rate
b) Reset rate
c) Floor rate
d) None of the above
5. An interest rate floor agreement is based on making a payment to the holder when a ________ falls below the specified floor rate, the length of the period and the contract’s notional amount.
a) Floor rate
b) Cap rate
c) Reset rate
d) Reference rate
6. To calculate the premium for a floor, several factors are considered, including the ____.
a) Strike rate
b) Notional amount
c) Term
d) All of the above
7. If the reference rate is above the________, then nothing is paid under the floor and no settlement takes place.
a) Reference rate
b) Reset rate
c) Floor rate
d) None of the above
8. On termination, the floor will be _______and the original transaction is reversed.
a) Renewed
b) Rolled over
c) Cancelled
d) None of the above
9. In a floor–to pay contract, when the reference rate falls below the strike price then interest has to be _____.
a) Received
b) Deducted
c) Paid
d) None of the above
Journal questions
1. Interest rate floor—pay
Prepare
Journal entries, general ledgers, trial balance, income statement, and balance sheet.
2. Interest rate floor—pay
Prepare
Journal entries, general ledgers, trial balance, income statement, and balance sheet.
3. Interest rate floor—receive
Prepare
Journal entries, general ledgers, trial balance, income statement, and balance sheet.
4. Interest rate floor—receive
Prepare
Journal entries, general ledgers, trial balance, income statement, and balance sheet.