Unit 3 Chapter F:12 LO1

Introduction to Long-Term Liabilities

  • Long-Term Liabilities Overview
    • Liabilities categorized into:
    • Current liabilities
    • Long-term liabilities
    • Focus of the chapter: understanding long-term liabilities, specifically long-term notes payable and mortgages payable.

Definition of Long-Term Liabilities

  • Long-Term Liability: A liability that does not need to be paid back within one year or within the operating cycle, whichever is longer.

Long-Term Notes Payable

  • Common Examples: Long-term notes payable, which are generally paid in installments.
  • Smart Touch Learning Example:
    • Long-term Note Payable Amount: $60,000
    • Payments made according to the note contract.

Key Concepts in Long-Term Notes Payable

  • Installment Payments: Payments made throughout the duration of the note.
    • Example of a 4-year long-term note:
    • Payment schedule set to December 31st of each year.
    • Portion due within one year classified as a Current Liability.
Financial Transaction Example
  • Smart Touch Learning Signs Note:
    • Date: 12/31/2025
    • Amount: $20,000, repaid over 4 years at 6% interest.
    • Annual Payment: $5,000 plus interest due on each December 31.
    • Journal Entry:
    • Increase Cash: $20,000 (Debit)
    • Increase Notes Payable: $20,000 (Credit)
First Payment Example
  • Payment Date: 12/31/2026
    • First Payment Amount: $5,000 (Principal) + Interest
    • Interest Calculation:
    • Formula: Interest = Principal × Rate × Time
    • For first installment:
      Interest=20,000imes0.06imes1=1,200Interest = 20,000 imes 0.06 imes 1 = 1,200
    • Total Payment:
    • Payment = Principal + Interest = $5,000 + $1,200 = $6,200
    • Remaining Balance:
    • New Balance = Original Balance - Principal Paid
    • $20,000 - 5,000 = 15,000$

Amortization Schedule for Long-Term Notes Payable

  • Purpose: Details each loan's payment between principal and interest, including beginning and ending loan balances.
  • Subsequent Years:
    • Maintain the same theory of principal plus interest calculations each year.
    • Recording of journal entries for following payments:
    • Interest expense for each subsequent year is derived from the remaining balance.
  • Example Payment for Year 2027:
    • Total payment made = $5,900
    • The remaining balance decreases by $5,000 annually.
Journal Entry for the First Payment 12/31/2026
  • Decrease in Notes Payable: $5,000
  • Interest expense recorded: $1,200
  • Cash decreased: $6,200

Mortgages Payable

  • Definition: A long-term debt that is backed by a security interest in a specific property (commonly a home or land).
  • Similarities to Long-Term Notes Payable:
    • Classified between current and long-term portions.

Smart Touch Learning Mortgage Example

  • Building Purchase:
    • Date: 12/31/2025
    • Total Cost: $150,000
    • Down Payment: $49,925
    • Mortgage Payable Amount: $100,075 (6% interest, 30-year term, monthly payments of $600)
Recording the Mortgage Payable
  • Initial Journal Entry:
    • Debit Building: (Asset) for $150,000
    • Credit Mortgage Payable for $100,075
    • Credit Cash for down payment of $49,925

Amortization Schedule for Mortgages Payable

  • Nature: Total monthly payment remains constant.
  • First Monthly Payment (01/31/2026):
    • Interest expense is calculated based on the starting balance:
      Interest=100,075imes0.06imes112ext(monthly)Interest = 100,075 imes 0.06 imes \frac{1}{12} ext{ (monthly)}
    • Approximately $500.38
    • Principal payment calculated as follows:
    • Total Payment ($600) - Interest = $600 - $500.38
    • Resulting principal payment = $99.62
  • Journal Entry for the First Installment Payment:
    • Decrease Mortgage Payable (Liability) by $99.62
    • Interest Expense recorded: $500.38
    • Cash decreased by $600

Comparison Between Long-Term Notes and Mortgages Payable

  • Differences between amortization schedules:
    • Long-Term Notes Payable:
    • Constant principal payments, changing total payment due to interest accrual.
    • Mortgages Payable:
    • Constant total payment, variable allocation towards principal due to changing beginning balance and interest expense.

Conclusion of Chapter

  • Understanding of how to account for long-term notes payable and mortgages payable has been established, reinforcing essential concepts for financial management and record-keeping in long-term liabilities.