Question

Wally is employed as an executive with Pay More Incorporated. To entice Wally to work for Pay More, the corporation loaned him $36,000 at the beginning of the year at a simple interest rate of 1 percent. Wally would have paid interest of $4,320 this year if the interest rate on the loan had been set at the prevailing federal interest rate.a. Wally used the funds as a down payment on a speedboat and repaid the $36,000 loan (including $360 of interest) at year-end. Does this loan result in any income to either party

Answer 1

Answer:

Wally and Pay More Incorporated

The loan resulted in any income to Wally of $3,960 ($4,320 - $360), which would have been a cost he would have incurred had he borrowed the loan at the prevailing federal interest rate.

On the other hand, it resulted in a lost revenue (expense) of $3,960 ($4,320 - $360) which Pay More Incorporated could have earned if it had loaned it at the prevailing federal interest rate.  This expense is a compensation expense.

Explanation:

Pay More's Loan to Wally = $36,000

Interest rate = 1%

Prevailing interest = $4,320

Interest paid = $360

Difference between prevailing interest and interest paid by Wally = $3,960 ($4,320 - $360).