Question

E14-18 Note with unrealistic interest rate; lender; amortization schedule. Amber Mining and Miling, Inc., contracted with Truax Corporation to have constructed a custom-made lathe. The machine was completed and ready for use on January 1, 2016. Amber paid for the lathe by issuing a $600,000, 3 year note that specified 4% interest, payable annually on December 31 of each year. The cash market price of the lathe was unknown. It was determined by comparison with similar transactions that 12% was a reasonable rate of interest.1. Prepare the journal entry on January 1, 2016 for Truax Corporation's sale of the lathe.2. Prepare and amortization schedule for the three-year term of the note.3. prepare the journal entries to record (a) interest for each of the three years and (b) payment of the note at the maturity for Truax.

Answer 1

Answer:

Explanation:

To find the fair value of bond we calculate the present value of future cashflows at 12% market rate.

No. of cashflows Cashflows Discount factor Present value

     3                  24000           2.401831268 57643.95044

     1                 600000           0.711780248 427068.1487

                                                                  484712.0991

1) Entries

invest at amortized cost   600000

               Asset                      484712

               Gain                        115287.91

2) Amortization Schedule

Year Amount           IRR 7%             CR 4%     Closing

 1     600000          72000         -24000     648000

 2     648000         77760      -24000     701760

 3     701760    84211.2    -24000    761971

3)

Year-1

Cash                  24000

Investment        48000

     interest Income         72000

To record the interest income  

Year-2

Cash                  24000

Investment        53760

     interest Income         77760

To record the interest income  

Year-3

Cash                  24000

Investment        60211

     interest Income         84211

To record the interest income  

year-3

Cash 761971

     Investment 761971

To record the maturity of investment