Notes Payable and Receivable

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1 CHAPTER 6 Notes Payable and Receivable BEFORE YOU READ What You ll Learn Explain how businesses use promissory notes. Calculate and record notes payable and notes receivable. Explain the difference between interest-bearing and non-interest-bearing notes. Journalize transactions involving notes payable. Journalize transactions involving notes receivable. Define the accounting terms introduced in this chapter. Why It s Important Businesses often borrow and lend money. Predict. What does the chapter title tell you?. What do you already know about this subject from personal experience?. What have you learned about this in the earlier chapters?. What gaps exist in your knowledge of this subject? Exploring the Real World of Business EVALUATING NOTES Advanced Micro Devices When Hector Ruiz took over as Chief Executive Officer of Advanced Micro Devices (AMD), his work was cut out for him. Competition from Intel was fierce, and sales were down. From his start in a research lab at Texas Instruments to president of Motorola s Semiconductor Products Sector, Ruiz was known for profitable operations in the ever-changing semiconductor industry. Believing the time was right for expansion, Ruiz began building AMD s newest fab (manufacturing facility) in Dresden, Germany. Fab 6 was expected to cost $. billion over four years. Companies like AMD often issue notes for cash needs. Fab 6 s funding is from bank loans, grants from the Federal Republic of Germany, and company equity. What Do You Think? When a bank loans money to a company like Advanced Micro Devices, what factors do you think it considers? 70 Chapter 6 Notes Payable and Receivable

2 Working in the Real World APPLYING YOUR ACCOUNTING KNOWLEDGE Have you or your parents ever bought a new or used car? Chances are you made a down payment and then signed a note payable for the rest of the purchase price. When businesses buy costly items, such as manufacturing equipment or even an office building, they also sign a note payable. In this chapter you will learn how to calculate the interest on a business note and record the total amount payable. Personal Connection Have you noticed any items that your employer purchased that required signing a note payable? This could include purchases like equipment, buildings, vehicles, or land. Online Connection Go to glencoeaccounting.glencoe.com and click on Student Center. Click on Working in the Real World and select Chapter 6. glencoeaccounting.glencoe.com 7

3 SECTION Promissory Notes BEFORE YOU READ Main Idea The formula for calculating interest is Principal Interest Rate Time. Read to Learn how promissory notes are used. (p. 7) how to calculate the interest on a note (p. 7) Key Terms promissory note note payable note receivable principal face value term issue date payee interest rate maturity date maker interest maturity value Many people sign a note to pay for the purchase of a vehicle over a certain period of time. The note may be with a company like Ford Motor or a financial institution. In this chapter you will learn about notes payable and notes receivable. A Promise to Pay What Is a Promissory Note? A promissory note, often shortened to note, is a written promise to pay a certain amount of money at a specific time. Promissory notes are formal documents that are evidence of credit granted or received. Laws require a promissory note to contain certain information as shown in Figure 6. Notes Payable and Notes Receivable A note payable is a promissory note that a business issues to a creditor when it borrows or buys on credit. A note receivable is a promissory note that a business accepts from a credit customer. Principal or Face Value amount being borrowed Term of note amount of time the borrower has to repay the note Issue Date date on which a note is written Payee person or business to which payment will be made $,00.00 Ninety days Athletic Equipment Inc. Two thousand five hundred dollars.% Due date per year. December, 0-- NOTE Date Sept after date I promise to pay to Michael Brown the sum of with interest at the rate of Interest Rate fee charged for use of money; stated as a percentage of the principal Maturity Date due date of the note Maker the person or business promising to repay the principal and interest Figure 6 Promissory Note 7 Chapter 6 Notes Payable and Receivable

4 The Maturity Date of a Note When a note is signed, the maker of the note agrees to repay the amount of the note within a certain period of time, usually stated in days, months, or years. This time period is the term of the note. Both the term and the issue date (date on which the note is signed) are needed to determine the maturity date (due date) of a note. In the note in Figure 6, Michael Brown, manager of On Your Mark Athletic Wear, agreed to pay Athletic Equipment Inc. the principal plus interest 90 days from September. To determine the maturity date:. Determine the number of days remaining in the month in which the note is issued. No interest is charged for the issue date, so subtract the date of the note from the number of days in the month. 0 days in September days issue date is September 6 days AS READ YOU Key Point Number of Days in Months January, March, May, July, August, October, and December have days. April, June, September, and November have 0 days. February has 8 days (9 days in a leap year).. Determine the number of days remaining after the first month. To do this subtract the number of days calculated in Step from the term of the note.. Subtract the number of days in the next month (October) from the number of days remaining after Step. 90 days term of note 6 days in September 7 days remaining 7 days days in October days remaining. Subtract the number of days in the next month (November) from the days remaining after Step.. Since there are only days remaining, the due date is days into the next month (December). days 0 days in November days remaining The due date for this note is December. Some businesses and banks use time calendars to calculate a note s maturity date. Figure 6 on page 7 shows an example of a time calendar. The time calendar has two sets of days: () the day of the month (left and right columns), and () the day of the year, by month (middle column). To calculate a maturity date using the time calendar, follow these steps:. Locate the issue date of the note (for example, ) in the Day of month column. Move across the month columns to the issue month (September). In our example September is the 7th day of the year.. Add the number of days in the term of the note (90) to the day of the year. The sum of the two numbers is 7 (7 90).. Find the number 7 in the month columns. The 7th day of the year is in December. The maturity month is December. Move across to the Day of month column. The 7th day of the year corresponds to the th day of the month. The due date of the note is December. AS READ YOU In Your Own Words Maker and Payee Explain who the maker and the payee of a note are. Section Promissory Notes 7

5 Day of month Jan. Feb. Mar. Apr. May June July Aug. Sept. Oct. Nov. Dec. Day of month Figure 6 Time Calendar NOTE: For leap years, after February 8, the number of the day is one greater than that given in the table. Connect to ECONOMICS Napoleon created the Bank of France in 800 to control inflation and high prices. He required every citizen to pay taxes. The government used the taxes to make loans to businesses, which created jobs for the middle class. This policy made Napolean popular. Calculation of Interest on a Note How Do You Calculate Interest on a Note? Interest is the fee charged for the use of money. The interest rate is the interest stated as a percentage of the principal. The interest on a promissory note is based on three factors: principal, interest rate, and term of the note. Calculating Interest Using a Formula The formula used to calculate interest follows: Interest Principal Interest Rate Time Interest rates are usually stated on an annual basis, that is, on a borrowing period of one year. To find the interest on a one-year promissory note, multiply the principal by the interest rate. The interest on an.%, one-year $,00 promissory note is $87.0 ($,00. $87.0). If the term of a promissory note is less than one year, the time in the calculation is expressed as a fraction of one year. The fraction may be stated in days or months. For example, on September On Your Mark signed a note for $,00 at.% interest for 90 days. Since the term 7 Chapter 6 Notes Payable and Receivable

6 of the note is expressed in days, 6 days is used as the denominator of the time fraction. The interest is calculated as follows: Principal Interest Rate Time Interest $,00. 90/6 $70.89 The interest on the note shown in Figure 6 on page 7 is $ On the maturity date, On Your Mark will repay the maturity value of the note. Maturity value is the amount due at the due date. In our example the maturity value is $,70.89 ($,00.00 $70.89). If the term of this note had been three months instead of 90 days, the denominator of the time fraction would be. The interest would be calculated as follows: Principal Interest Rate Time Interest $,00. / $7.88 AS READ YOU Key Point Interest Rates Interest rates are stated for a period of one year. To calculate interest on a note signed for a period of less than one year, express the term of the note as a fraction of one year. The maturity value would be $,7.88 ($,00.00 $7.88). Calculating Interest Using an Interest Table To calculate interest, businesses and banks often use an interest table similar to the one in Figure 6. We use On Your Mark s note to illustrate. Find the term of the note in the Day column, 90. Follow the row across until you reach the column for the interest rate,.%. Where the Day row and the Interest column meet is a factor,.866. The factor is based on a principal amount of $00. Divide the principal of the note by 00. The result is ($,00 00). Multiply the result by the factor to find the interest. The interest is $70.89 (.866). In this example the interest calculated using both the equation and the interest table are the same. Sometimes small differences occur due to rounding. SIMPLE INTEREST ON $00 (6 DAY BASIS) DAY.0 % INTEREST DAY.7 % INTEREST DAY.00 % INTEREST DAY. % INTEREST DAY.0 % INTEREST DAY.7 % INTEREST Figure 6 Interest Table Section Promissory Notes 7

7 SECTION Assessment AFTER YOU READ Reinforce the Main Idea Using a chart like this, describe the step-by-step procedure for determining the maturity value of a promissory note. Do the Math Marty Herick is the owner of CyberAction, a new computer-game store. Marty has just signed a promissory note with Excelsior Bank. He plans to use the loan to purchase and update his computer-game inventory. Using the formula, what is the interest on the $0,000, 90-day note with a 0.% interest rate? What is the maturity value? Problem 6 Calculating Interest and Finding Maturity Values Instructions Using the formula, compute the interest and maturity values for each of the following notes. Record your answers in your working papers. Use the interest table to check your computations. Principal Interest Rate Term. $,000.% 60 days. 0,000.7% 90 days. 6,00.7% 60 days. 900.% 0 days Problem 6 Calculating Interest Instructions Calculate the interest for each of the following notes. Record your answers in your working papers. Principal Interest Rate Term. $ 600 % 90 days.,00 % 60 days. 9,600 9% months.,00 0% 80 days 76 Chapter 6 Notes Payable and Receivable

8 SECTION Notes Payable In this section you will journalize transactions involving notes payable. Recall that a note payable is a promissory note issued to a creditor. For example, a business may issue a note payable to bor row money from a bank. Notes that a business issues are recorded in the Notes Payable account. Notes Payable is a liability account; its normal balance is a credit. When the due date of a note extends beyond one year, the note is classified as a long-term liability. Long-term liabilities are debts that become due after one year. Businesses frequently issue two types of notes: interest-bearing notes and non-interest-bearing notes. We consider both types of notes in this section. Interest-Bearing Notes Payable What Is an Interest-Bearing Note Payable? A note that requires the principal plus interest to be paid on the maturity date is called an interest-bearing note payable. The note issued by On Your Mark (in Section ) is an interest-bearing note. Its maturity value is $,70.89 ($,00.00 principal $70.89 interest). Recording the Issuance of an Interest-Bearing Note Payable Let s record On Your Mark s interest-bearing note payable as an example. BEFORE YOU READ Main Idea Businesses issue and accept two types of notes: interest-bearing notes and non-interest-bearing notes. Read to Learn what an interest-bearing promissory note is. (p. 77) why a non-interest-bearing note does have interest expense. (p. 79) Key Terms long-term liabilities interest-bearing note payable non-interest-bearing note payable bank discount proceeds other expense Business Transaction On April On Your Mark borrowed $7,000 from State Street Bank and issued a 90-day, % note payable to the bank, Note 6. ANALYSIS Identify Classify /. The accounts affected are Cash in Bank and Notes Payable.. Cash in Bank is an asset account. Notes Payable is a liability account.. Cash in Bank is increased by $7,000. Notes Payable is increased by $7,000. Section Notes Payable 77

9 DEBIT-CREDIT RULE. Increases to asset accounts are recorded as debits. Cash in Bank for $7,000.. Increases to liability accounts are recorded as credits. Notes Payable for $7,000. T ACCOUNTS 6. Cash in Bank Notes Payable 7,000 7,000 JOURNAL ENTRY 7. GENERAL JOURNAL PAGE DATE 0-- Apr. DESCRIPTION POST. REF. DEBIT Cash in Bank Notes Payable Note 6 CREDIT Recording the Payment of an Interest-Bearing Note Payable The maturity date of On Your Mark s note payable to State Street Bank is July. You can verify this by using the time calendar in Figure 6 on page 7. The interest is $07., calculated as follows: Principal Interest Rate Time Interest $7, /6 $07. The maturity value of the note is $7,07. ($7, principal $07. interest). Business Transaction On July On Your Mark issued Check 89 for $7,07. payable to State Street Bank in payment of the note payable issued April. ANALYSIS Identify Classify /. The accounts affected are Notes Payable, Interest Expense, and Cash in Bank.. Notes Payable is a liability account. Interest Expense is an expense account. Cash in Bank is an asset account.. Notes Payable is decreased by $7,000. Interest Expense is increased by $07.. Cash in Bank is decreased by $7, Chapter 6 Notes Payable and Receivable

10 DEBIT-CREDIT RULE. Decreases to liability accounts are recorded as debits. Notes Payable for $7,000. Increases to expense accounts are recorded as debits. Interest Expense for $07... Decreases to asset accounts are recorded as credits. Cash in Bank for $7,07.. T ACCOUNTS 6. Notes Payable Cash in Bank 7,000 7,07. Interest Expense 07. JOURNAL ENTRY 7. GENERAL JOURNAL PAGE DATE 0-- July DESCRIPTION POST. REF. DEBIT Notes Payable Interest Expense 07 Cash in Bank Check 89 CREDIT 7 07 Non-Interest-Bearing Notes Payable How Is Interest Paid on a Non-Interest-Bearing Note? Sometimes a bank requires a borrower to pay the interest on a note in advance. On the issue date, the bank deducts the interest from the face value of the note. This reduces the amount of money the borrower receives. When interest is deducted in advance from the face value of the note, the note is called a non-interest-bearing note payable. The note is non-interest-bearing because no interest rate is stated on the note. The interest deducted in advance is called the bank discount. The interest rate used to calculate the bank discount is called the discount rate. The cash received by the borrower is called the proceeds. The proceeds equal the face value of the note minus the bank discount. For a non-interest-bearing note payable, the maturity value is the same as the face value. This is because the interest is deducted from the face value on the issue date. Figure 6 on page 760 shows an example of a non-interest-bearing note payable. Section Notes Payable 79

11 NOTE $,00.00 Date June 0 -- Ninety days First Federal Bank One thousand five hundred after date I promise to pay to the sum of dollars. Figure 6 Non- Interest-Bearing Note Payable Due date September 0, 0-- Michael Brown AS READ YOU It s Not What It Seems Non-Interest-Bearing Note The term noninterest-bearing might imply that the note has no interest charge. This is not the case. Calculating Non-Interest-Bearing Notes Payable Let s calculate the proceeds of the non-interest-bearing note payable shown in Figure 6. The note was discounted at a rate of % by First Federal Bank, Note. The first step in calculating the proceeds on a non-interest-bearing note is to calculate the bank discount. This is the interest on the note. (Notice that the formula is similar to the one used to compute interest on an interest-bearing note.) Face Value Discount Rate Time Bank Discount $,00. 90/6 $.8 The bank discount is subtracted from the face value of the note to determine the proceeds. The proceeds are $,.6 ($,00.00 $.8). Recording the Issuance of a Non-Interest-Bearing Note Payable The bank discount is recorded in a contra liability account called Discount on Notes Payable. The normal balance of Discount on Notes Payable is a debit. The bank discount is the future interest expense on the note. However, the bank discount is not recorded in an expense account until the note matures and the interest expense has been incurred. Now that we calculated the discount, let s record the issuance of the non-interest-bearing note for On Your Mark. Business Transaction On June On Your Mark signed a $,00, 90-day non-interest-bearing note payable that First Federal Bank discounted at a rate of %, Note. ANALYSIS Identify Classify /. The accounts affected are Cash in Bank, Discount on Notes Payable, and Notes Payable.. Cash in Bank is an asset account. Discount on Notes Payable is a contra liability account. Notes Payable is a liability account.. Cash in Bank is increased by $,.6. Discount on Notes Payable is increased by $.8. Notes Payable is increased by $, Chapter 6 Notes Payable and Receivable

12 DEBIT-CREDIT RULE. Increases to asset accounts are recorded as debits. Cash in Bank for $,.6. Increases to contra liability accounts are recorded as debits. Discount on Notes Payable for $.8.. Increases to liability accounts are recorded as credits. Notes Payable for $, T ACCOUNTS 6. Cash in Bank Notes Payable,.6,00.00 Discount on Notes Payable.8 JOURNAL ENTRY 7. GENERAL JOURNAL PAGE 0 6 DATE 0-- June DESCRIPTION POST. REF. DEBIT Cash in Bank 6 Discount on Notes Payable 8 Notes Payable Note CREDIT Businesses report the Discount on Notes Payable account on the balance sheet as a deduction from Notes Payable. The difference between the Notes Payable account and the Discount on Notes Payable account is the book value of notes payable. Figure 6 shows the Liabilities section of the balance sheet for On Your Mark on June 0. It shows that the book value of notes payable is $,.6 ($,00 $.8). Liabilities Notes Payable Less: Discount on Notes Payable On Your Mark Athletic Wear Balance Sheet June 0, Figure 6 Reporting Non-Interest-Bearing Notes Payable on the Balance Sheet 6 AS READ YOU Compare and Contrast Types of Notes Payable How is an interestbearing note payable similar to a non-interestbearing note payable? How are they different? Section Notes Payable 76

13 Business Transaction Recording the Payment of a Non-Interest-Bearing Note Payable When the non-interest-bearing note payable matures and is due, On Your Mark will pay First Federal Bank $,00, the face value of the note, and record the interest expense by transferring the bank discount to interest expense. We will look at each of these individually and as a compound journal entry. On September 0 On Your Mark issued Check for $,00 to First Federal Bank in payment of the June non-interest-bearing note payable. ANALYSIS Identify Classify /. The accounts affected are Notes Payable and Cash in Bank.. Notes Payable is a liability account. Cash in Bank is an asset account.. Notes Payable is decreased by $,00. Cash in Bank is decreased by $,00. DEBIT-CREDIT RULE. Decreases to liability accounts are recorded as debits. Notes Payable for $,00.. Decreases to asset accounts are recorded as credits. Cash in Bank for $,00. T ACCOUNTS 6. Notes Payable Cash in Bank,00,00 JOURNAL ENTRY 7. GENERAL JOURNAL PAGE DATE 0-- Sept. DESCRIPTION POST. REF. DEBIT 0 Notes Payable 0000 Cash in Bank Check CREDIT Chapter 6 Notes Payable and Receivable

14 When a non-interest-bearing note payable matures, the amount of the bank discount is recognized as an expense. The bank discount is transferred from the Discount on Notes Payable account to the Interest Expense account. As the following T accounts demonstrate, Interest Expense is debited for $.8 and Discount on Notes Payable is credited for $.8. When this transaction is recorded, the balance of the Discount on Notes Payable account is reduced to zero. Interest Expense Discount on Notes Payable 9/0.8 6/.8 9/0.8 You could record two separate journal entries:. the payment of the non-interest-bearing note payable (in the cash payments journal), then. the interest expense (in the general journal) It is simpler, however, to prepare one compound entry in the general journal as shown. GENERAL JOURNAL PAGE 6 7 DATE 0-- Sept. DESCRIPTION POST. REF. DEBIT 0 Notes Payable 0000 Interest Expense 8 Cash in Bank Discount on Notes Payable Check CREDIT The Interest Expense account is classified as an other expense account. An other expense is a nonoperating expense. This means that the expense does not result from the normal operations of the business. Other expenses appear in a separate section on the income statement, as deductions from operating income. Section Notes Payable 76

15 SECTION Assessment AFTER YOU READ Reinforce the Main Idea Create a table similar to this one to list three facts about the types of notes covered in this section. Do the Math Franklin Enterprises can borrow $0,000 for 0 days at % at the Jefferson City Bank or $0,000 for days at.% at Lincoln National Bank. Answer the following questions.. Which bank note results in the least amount of interest expense?. How much in interest expense can be saved? Problem 6 Recording the Issuance of an Interest-Bearing Note Payable On June Frank s Lobster Pound issued a $9,000, 0-day, % note payable to American Bank of Commerce.. Which account is debited? What is the debit amount?. Which account is credited? What is the credit amount?. What is the classification of each account?. What is the maturity value of the note? Problem 6 Recording the Issuance of a Non-Interest-Bearing Note Payable On October Canton Car Care Center issued a $0,000, 60-day, % non-interestbearing note payable to Canton National Bank.. Which accounts are debited and which are credited? What are the debit and credit amounts?. Compute the bank discount. What is the amount of the proceeds? 76 Chapter 6 Notes Payable and Receivable

16 SECTION Notes Receivable In this section you will journalize transactions involving notes receivable. If you have ever loaned someone money and asked the person to repay the loan by a specific date, you understand the basic concept of a note receivable. Sometimes such a loan includes payment of a specified amount of interest; other times no interest is expected. Recording the Receipt of a Note Receivable How Do You Convert an Account Receivable to a Note Receivable? When a customer needs additional time to pay an account receivable, he or she may be asked to sign a promissory note. The note replaces the account receivable. Promissory notes that a business accepts from customers are called notes receivable. Notes Receivable is an asset account, and its normal balance is a debit. A note receivable is due on a specific date and carries an interest charge for the term of the note. The interest earned on a note receivable is recorded in the Interest Income account. Interest Income is an other revenue account. Other revenue, also known as nonoperating revenue accounts, track revenue that a business receives from activities other than its normal operations. Other revenue appears in a separate section on the income statement, as an increase to operating income. BEFORE YOU READ Main Idea Businesses record the receipt of a note receivable as well as the payment of the note. Read to Learn how to record a note receivable. (p. 76) how to record the payment of a note receivable. (p. 766) Key Terms other revenue Business Transaction On March On Your Mark sold $,70 of merchandise on account to Joe Dimaio. That transaction was recorded in On Your Mark s sales journal. Joe cannot pay his account by the due date. On April 8 On Your Mark received a 60-day,.% note dated April 6 for $,70 from Joe Dimaio to settle the account receivable, Note. ANALYSIS Identify Classify /. The accounts affected are Notes Receivable, Accounts Receivable (controlling), and Accounts Receivable Joe Dimaio (subsidiary).. Notes Receivable, Accounts Receivable (controlling), and Accounts Receivable Joe Dimaio (subsidiary) are asset accounts.. Notes Receivable is increased by $,70. Accounts Receivable (controlling) and Accounts Receivable Joe Dimaio (subsidiary) are decreased by $,70. Section Notes Receivable 76

17 DEBIT-CREDIT RULE. Increases to asset accounts are recorded as debits. Notes Receivable for $,70.. Decreases to asset accounts are recorded as credits. Accounts Receivable (controlling) for $,70. Also credit Accounts Receivable Joe Dimaio (subsidiary) for $,70. T ACCOUNTS 6. Notes Receivable Accounts Receivable,70,70 Accounts Receivable Subsidiary Ledger Accounts Receivable Joe Dimaio,70 JOURNAL ENTRY 7. GENERAL JOURNAL PAGE DATE 0-- Apr. DESCRIPTION POST. REF. DEBIT 8 Notes Receivable 7000 Accts. Rec./Joe Dimaio Note CREDIT 7000 Business Transaction Recording the Payment of a Note Receivable How Do You Record Payment of a Note? The note from Joe Dimaio is due on June. The maturity value of the note is $,78.96 ($,70.00 principal $.96 interest). Principal Interest Rate Time Interest $,70. 60/6 $.96 On June 7 On Your Mark received a check dated June for $,78.96 from Joe Dimaio in payment of the $,70 note of April 6 plus interest of $.96, Receipt 996. JOURNAL ENTRY GENERAL JOURNAL PAGE 8 DATE 0-- June DESCRIPTION POST. REF. DEBIT 7 Cash in Bank 7896 Notes Receivable Interest Income Receipt 996 CREDIT Chapter 6 Notes Payable and Receivable

18 SECTION Assessment AFTER YOU READ Reinforce the Main Idea Create a table similar to the one here to determine which accounts to debit and credit for each transaction. Choose from these accounts and write the account title in the proper column: Accounts Receivable/Customer; Cash in Bank; Interest Income; Sales; Sales Tax Payable; and Notes Receivable. Do the Math Your accounting manager has just finished a graph illustrating the possible interestbearing notes available from the region s banks. Review the graph and give your boss your recommendation of which bank will provide the best loan value. 90-DAY NOTES Central Bankers 7.87 Syracuse National 8.0 New York Bankcorp 7.70 First Federal Percentage Rates Problem 6 Analyzing a Source Document Instructions Examine the note illustrated here. In your working papers, make the appropriate journal entry on page of the general journal for Eli s Catering Company. The note was discounted at a rate of % by First Federal Bank. NOTE $,00.00 Date June 0 -- Ninety days after date I promise to pay to First Federal Bank the sum of Two thousand five hundred and no /00 dollars. Due date September 0, 0-- Owner, Eli's Catering Co. Section Notes Receivable 767

19 CHAPTER 6 Summary Key Concepts. A promissory note, often just called a note, is a written promise to pay an amount of money by a specific future date. It allows businesses to make purchases and pay for them at a later date.. A note payable is a promissory note that a business issues to a creditor or to a bank to obtain a loan. A note receivable is a promissory note that a business accepts from a credit customer. Laws require a promissory note to contain certain information: maker: person or business signing a note and promising to repay the principle and interest payee: person or business the payment will be made to principal or face value: amount borrowed interest rate: fee charged for use of money; stated as a percentage of the principal term: amount of time the borrower has to repay the note issue date: date on which a note is written maturity date: due date of the note The formula used to calculate interest is: Interest Principal Interest Rate Time. Here is a comparison of interest-bearing and non-interest-bearing notes payable: Interest-Bearing Note Payable Non-Interest-Bearing Note Payable Distinction Interest rate is stated on note. No interest rate is stated on the note. Interest Interest is paid at maturity date. Interest is called bank discount. It is deducted from the face value on the note s issue date. Example Interest rate 6% Face value $,000 Term months Calculation Proceeds Issuance of Note Payment of Note Interest Principal Interest Rate Time Interest $, / Interest $ Proceeds Face Value Proceeds $,000 Cash in Bank,000 Notes Payable,000 Notes Payable,000 Interest Expense Cash in Bank,0 Bank discount 6% Face value $,000 Term months Bank Discount Face Value Discount Rate Time Bank Discount $, / Bank Discount $ Proceeds Face Value Bank Discount Proceeds $,000 $ $98 Cash in Bank 98 Discount on Notes Payable Notes Payable,000 Notes Payable,000 Interest Expense Cash in Bank,000 Discount on Notes Payable. To record the issuance of an interest-bearing note payable: Cash in Bank Notes Payable 768 Chapter 6 Summary

20 Summary CHAPTER 6 To record the payment of an interest-bearing note payable: Notes Payable Interest Expense Cash in Bank To record the issuance of a non-interest-bearing note payable: Cash in Bank Discount on Notes Payable Notes Payable To record the payment of a non-interest-bearing note payable: Notes Payable Interest Expense Cash in Bank Discount on Notes Payable. To record the receipt of a note receivable converted from an account receivable: Notes Receivable Accounts Receivable (controlling/subsidiary) To record the payment of a note receivable: Cash in Bank Notes Receivable Interest Income Key Terms bank discount (p. 79) face value (p. 7) interest (p. 7) interest-bearing note payable (p. 77) interest rate (p. 7) issue date (p. 7) long-term liabilities (p. 77) maker (p. 7) maturity date (p. 7) maturity value (p. 7) non-interest-bearing note payable (p. 79) note payable (p. 7) note receivable (p. 7) other expense (p. 76) other revenue (p. 76) payee (p. 7) principal (p. 7) proceeds (p. 79) promissory note (p. 7) term (p. 7) Chapter 6 Summary 769

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