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Intermediate Accounting (Kieso)
Found in: Page 377

Short Answer

On July 1, 2017, Moresan Company sold special-order merchandise on credit and received in return an interest-bearing note receivable from the customer. Moresan will receive interest at the prevailing rate for a note of this type. Both the principal and interest are due in one lump sum on June 30, 2018.

On September 1, 2017, Moresan sold special-order merchandise on credit and received in return a zero-interest-bearing note receivable from the customer. The prevailing rate of interest for a note of this type is determinable. The note receivable is due in one lump sum on August 31, 2019.

Moresan also has significant amounts of trade accounts receivable as a result of credit sales to its customers. On October 1, 2017, some trade accounts receivable were assigned to Indigo Finance Company on a non-notification (Moresan handles collections) basis for an advance of 75% of their amount at an interest charge of 8% on the balance outstanding.

On November 1, 2017, other trade accounts receivable were sold without recourse. The factor withheld 5% of the trade accounts receivable factored as protection against sales returns and allowances and charged a finance charge of 3%.

Instructions

(a) How should Moresan determine the interest revenue for 2017 on the:

(1) Interest-bearing note receivable? Why?

(2) Zero-interest-bearing note receivable? Why?

Interest revenue for interest-bearing notes will be calculated using face value and interest rate for six months. Interest revenue for zero-interest bearing notes will be computed using discounted present value and market rate of interest for four months.

See the step by step solution

Step by Step Solution

Definition of Accrued Interest

Accrued interest is defined as the interest expenses due for any amount borrowed but is still unpaid. Such interest is reported as a current liability.

Interest Revenue

(1) Interest-bearing note: Interest revenue for interest-bearing notes will be calculated by multiplying the principal amount by the interest rate and 6/12. It is multiplied by 6/12 because the interest gets accrued for July to December.

(2) Zero-Interest bearing note: Interest revenue for non-interest-bearing notes is calculated by multiplying the carrying value of the note, market interest rate, and 4/12. The carrying value is calculated as the present value of the face amount on September 1 from the maturity date. The discounted value must be calculated at the market rate of interest.

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