Question

N june 30, 2018, the esquire company sold some merchandise to a customer for $45,000 and agreed to accept as payment a noninterest-bearing note with an 8% discount rate requiring the payment of $45,000 on march 31, 2019. the 8% rate is appropriate in this situation. esquire views the financing component of this contract as significant. required: 1. prepare journal entries to record the sale of merchandise (omit any entry that might be required for the cost of the goods sold), the december 31, 2018 interest accrual, and the march 31, 2019 collection. 2. what is the effective interest rate on the note?

Answer 1

Answer:

1)

June 30, 2018 merchandise sold on account

Dr Notes receivable 42,452.83

    Cr Sales revenue 42,452.83

December 31, 2018 accrued interest

Dr Accrued interest receivable 1,698.11

    Cr Interest revenue 1,698.11

March 31, 2019 notes receivable collected

Dr Cash 45,000

    Cr Notes receivable 42,452.83

    Cr Interest revenue 849.06

2) since this note receivable was a current note receivable due within 9 months, I did my calculations using the 8% annual rate as the effective interest rate. The time is too short to use compound interest which would have increased the effective interest rate, usually compound interest is used for non-current notes (more than 1 year).

r = (1 + i/n)ⁿ - 1

r = (1 + 8%/1)¹ - 1 = 8%

Explanation:

first we must calculate the present value of the note receivable:

present value = future value / (1 + r)ⁿ

• future value = $45,000
• r = 8% annual x 9/12 months = 6%
• n = 1

present value = $45,000 / 1.06 = $42,452.83

accrued interest Dec. 31 = $42,452.83 x 4% = $1,698.11

3 month interest = $42,452.83 x 2% = $849.06

effective interest formula:

r = (1 + i/n)ⁿ - 1

r = (1 + 8%/1)¹ - 1 = 8%