Chapter 8A ACCT 327

Note receivable

A written promise to receive specified amounts on specific payment date(s). Usually long-term.

Face value

Amount due at note’s maturity date

Stated rate

Interest rate used to determine the cash interest receipts, which can be 0% if no cash interest receipts are required. Stated as an annual rate.

Market rate (Effective rate)

Interest rate on a similar investment in the market involving similar risk and where the issuer has a similar crediting rating. Stated as an annual rate.

Interest-bearing note

Note requiring periodic cash interest receipts based on terms of the note

Noninterest-bearing note

Note requiring no periodic cash interest receipts. (The stated rate is equal to zero.) Instead, all amounts are received at maturity.

Discount on note receivable

Contra account equal to the excess of the face value of a note over its present value. A discount decreases the carrying value of a note receivable. Discount represents deferred interest revenue that will be recognized over the term of the note.

Premium on note receivable

Adjunct account equal to the excess of the present value of a note over its face value. A premium increases the carrying value of a note receivable. Premiums represent a reduction of interest revenue that will be recognized over the term of the note.

Effective interest method

Interest revenue each period is determined by multiplying the market rate by the carrying value of the note at the beginning of the interest period.

Reasonable Rate

Stated rate = market rate

Unreasonable Rate

Stated rate DOES NOT EQUAL market rate

Non-interest bearing

Stated rate = 0%

Lump Sum (principal paid at maturity)

FV = Face value

Annuity (principal paid a little each compounding period)

FV = 0

Market rate (Im) is also known as…

Effective rate, yield, customer’s normal borrowing rate

Stated rate (Ic) is also known as…

Coupon rate, printed rate

How do you calculate PMT for a Reasonable Rate Lump sum

PMT = Face value * stated rate

How do you calculate PMT for a Reasonable Rate Annuity

Payment will either be given or will need to be determined using the TVM solver

How do you calculate PMT for a Unreasonable Rate Lump Sum

PMT = Face value * stated rate

How do you calculate PMT for a Non-interest bearing Lump Sum

PMT = 0

How do you calculate PMT for a Non-interest bearing Annuity

PMT = Face value / n

Interest JE for Reasonable Rate Lump Sum

Cash xxx (PMT)
Interest Revenue xxx (Carrying value * market rate)

Interest JE for Reasonable Rate Annuity

Cash xxx (PMT)
Interest Revenue xxx (CV * market rate)
Note Receivable xxx (Plug)

Interest JE for Unreasonable Rate Lump Sum (Discount)

Cash xxx (FcV * Ic)
Interest Revenue xxx (CV x Im)
Discount xxx (Plug)

Interest JE for Unreasonable Rate Lump Sum (Premium)

Cash xxx (FcV x Ic)
Interest Revenue xxx (CV x Im)
Premium xxx (Plug)

Interest accrual JE for Non-Interest Bearing Lump Sum

Discount xxx (CV x Im)
Interest Revenue xxx (CV x Im)

Payment JE for Non-Interest Bearing Annuity

Cash xxx (FcV/n)
Note Receivable xxx (FcV/n)
Discount xxx (CV x Im)
Interest Revenue xxx (CV x Im)

Roll forward equation

CVold + Interest revenue - Cash = CVnew

Stated rate > market rate

Premium. The present value is going to be more than the N/R amount.

Stated Rate < Market rate

Discount. The discount account is a contra-asset account. The present value is going to be less than the N/R amount.

In reasonable rates, the Face Value is always equal to:

The PV and the Carrying Value

In reasonable rate lump sums, the Interest revenue is always equal to:

Cash PMT

In reasonable rate lump sums, the CV:

Does NOT change

In reasonable rate lump sums, the CV at the end of the note is the same as the:

Face Value

In reasonable rate annuities, the CV at the end is equal to:

0, or the FV

In reasonable rate annuities, the PMT is always equal to:

Principal + interest

In unreasonable rates:

Interest revenue or Expense will not equal the cash payment associated with the annuity. It will change each period.

In non-interest bearing problem. _________ are always applied

Discounts

Does cash go towards interest for non-interest bearing notes?

No

In non-interest bearing notes, Interest is embedded in:

The Face Value