NOTES RECEIVABLE AND LOAN RECEIVABLE

Notes Receivable, Definition

Notes receivables are claims supported by formal promises to pay usually in the form of notes (i.e. promissory note). A
promissory note is a written contract in which one person, known as the maker, promises to pay another person, known
as the payee, a definite sum of money.

Types of Notes Receivable

There are two types of notes receivable:
1. Interest-bearing note receivable – these are promissory notes with stated interest rates, which indicates the
interest to be paid at a given time.
2. Non-interest-bearing note receivable – these are promissory notes that do not bear any interest.

Loan Receivable, Definition

A loan receivable is a financial asset arising from a loan granted by a bank or other financial institution to a borrower or a
client.

The term of the loan may be short-term, but in most cases, the repayment periods cover several years.

Initial Measurement
As discussed in the previous notes, receivables are initially measured at fair value.

Conceptually, notes receivable shall be measured initially at present value, which is its fair value.

Present value is the sum of all future cash flows discounted using the prevailing market rate of interest for similar notes.
Since, normally, the only cash flows that would arise from these receivables are the interest payments and the principal
payments, present value is simply the sum of the discounted principal and interest using the market rate of interest for
similar notes.

Loan receivable, on the other hand, is initially measured at fair value plus transaction costs that are directly attributable
to the acquisition of the financial asset.

The Concept of “Present Value”

If you received a one-year promissory note on January 1, 2020 for P1,000,000, bearing an interest of 12%, you know that
on December 31, 2020, you will be receiving a total of P1,120,000, which comprises the P120,000 interest and the
P1,000,000 principal. This amount is called the future value of P1,000,000 after a year.

Present value is simply the opposite of future value, which is the value of something today, given a future value at a
certain interest rate. In other words, from the given example, if the value of a promissory note on December 31, 2020 is
P1,120,000 given an interest rate of 12%, its present value on January 1, 2020 is P1,000,000.

From your mathematics of investment subjects, the following formulas are used in determining the present value
factors:
(1) Present value factor (lump-sum) = (1+r) -t
(2) Present value factor of an ordinary annuity = [1 – (1+r) -t] / r
(3) Present value factor of an annuity in advance = 1 + {[1 – (1+r) -(t-1)] / r}

Wherein:
r – interest rate
t – time
To illustrate the formula, given our previous example, let’s say we are going to receive P1,120,000 after a year, given an
interest rate of 12%. To compute for the present value, we simply multiply the future value by the present value factor,
as follows:
Present value = Future value * [(1+r) -t]
Present value = P1,120,000 * (1 + 12%)-1
Present value = P1,120,000 * 1.12-1
Present value = P1,000,000

Subsequent Measurement
Again, as discussed in the previous notes, receivables are measured at amortized cost.

Amortized cost is computed as follows:

Amortized cost = Beginning balance of receivable + Interest income – Interest collection – Principal collection

The interest income is computed by multiplying the beginning balance of receivable by the effective interest rate. The
effective interest rate is the real return on a savings account or any interest-paying investment when the effects of
compounding over time are taken into account.

The interest collection, on the other hand, is simply the face value of the receivable multiplied by the stated interest rate
or the nominal interest rate (i.e. the rate stated in the promissory note or loan).

Illustrative Problem 1
RAIN Corporation received a promissory note on January 1, 2020, for P2,000,000. The note bears an interest rate of 10%,
and the note matures on December 31, 2022.

Requirement: Prepare the pertinent journal entries for 2020, 2021, and 2022.

Solution
Jan. 1, 2020 Notes Receivable 2,000,000
Cash 2,000,000

Dec. 31, 2020 Cash 200,000

Interest Income 200,000

Dec. 31, 2021 Cash 200,000

Interest Income 200,000

Dec. 31, 2022 Cash 200,000

Interest Income 200,000

Cash 2,000,000
Notes Receivable 2,000,000

The annual interest income is computed as follows:

Face amount of note 2,000,000
Multiply by the interest rate 10%
Annual interest income 200,000
 Illustrative Problem 2
On January 2, 2020, FIRE Company sold an equipment costing P500,000 with an accumulated depreciation of P250,000.
The entity received as consideration a P400,000 non-interest-bearing note due on December 31, 2022. The prevailing
rate of interest for a note of this type is 10%.

Requirements:
1. What is the present value of the note receivable? (round off present value factors to four-decimal places)
2. How much is the gain (loss) on sale of equipment?
3. Prepare the pertinent entries for 2020, 2021, and 2022.

Solution:
Requirement 1
Present value factor = (1+r)-t
Present value factor = (1 + 10%) -3
Present value factor = 0.7513

Face value of note 400,000

Multiply by present value factor 0.7513

Present value of note 300,520

Requirement 2
Present value of note 300,520
Less: Carrying value of equipment
Cost 500,000
Accumulated depreciation (250,000) 250,000
Gain on sale of equipment   50,520

Requirement 3
Jan. 2, 2020 Note Receivable 400,000
Accumulated Depreciation 250,000
Equipment 500,000
Unearned Interest Income 99,480
Gain on Sale of Equipment 50,520

Dec. 31, 2020 Unearned Interest Income 30,052

Interest Income 30,052

Dec. 31, 2021 Unearned Interest Income 33,057

Interest Income 33,057

Dec. 31, 2022 Unearned Interest Income 36,371

Interest Income 36,371

Cash 400,000
Note Receivable 400,000

Supporting Notes and Computations:

 We still recognize interest income even for non-interest-bearing notes. This is consistent with the concept of
substance over form in accounting. Naturally, long-term receivables would always bear an interest, even if the
form (i.e. non-interest-bearing note) states that it does not bear any interest.
  As discussed, receivables are subsequently measured at amortized cost. As such, we can use an amortization
table to summarize the amounts related to the note. The following is the format of an amortization table:
Interest Principal
Date Interest Income Received Collection Amortized Cost
Jan. 1, 20x1       xxx
Dec. 31, 20x1 xxx xxx xxx xxx
Dec. 31, 20x2 xxx xxx xxx xxx
Dec. 31, 20x3 xxx xxx xxx xxx
 In relation to the problem, the amortization table would look like this:
Interest Principal
Date Interest Income Received Received Carrying Value
Jan. 2, 2020       300,520
Dec. 31, 2020 30,052 0 0 330,572
Dec. 31, 2021 33,057 0 0 363,629
Dec. 31, 2022 36,371 0 0 400,000
In most cases, the columns with zero amounts are simply removed to simplify the table.
 Notice that the amounts in the table correspond to the explanation for the computation of the amortized cost,
as explained in “Subsequent Measurement” above. The interest income for 2020 is 10% of P300,520; the
December 31, 2020 carrying value is simply P300,520 plus the interest income of P30,052 (minus interest
received, minus principal received; which are both zero in this case); the interest income in 2021 is P330,572
times 1%; and so on.
 The unearned interest income represents the interest income that will be recognized in the future. This is
computed initially by deducting the present value of the note from its face value, as follows:
Face value of note 400,000
Present value of note (300,520)
Unearned interest income 99,480

 The unearned interest income is presented in the statement of financial position as a deduction from the
balance of note receivable. So, on January 1, 2020, the note receivable is presented as follows:
Face value of note 400,000
Unearned interest (99,480)
Present value of note 300,520
 The unearned interest income is also reduced by the interest recognized for the year. The balance of the
unearned interest income on December 31, 2020 is computed as follows:
Unearned interest income, Jan. 2, 2020 99,480
Interest income, 2020 (30,052)
Unearned interest income, Dec. 31, 2020 69,428
 The note receivable is then presented on December 31, 2020, as follows:
Face value of note 400,000
Unearned interest income, Dec. 31, 2020 (69,428)
Carrying value of note receivable, Dec. 31, 2020 330,572
 Notice that the carrying value of the note receivable (as computed) is the same as the value under “Carrying
Value” for Dec. 31, 2020 in the amortization table above.

Origination Fees
Lending activities usually precede the actual disbursement of funds and generally include efforts to identify and attract
potential borrowers and to originate a loan.

The fees charged by the bank against the borrower for the creation of the loan are known as origination fees.
As stated earlier, loan receivables are initially measured at fair value plus transaction costs that are directly attributable
to the acquisition of the financial asset. Since origination fees are directly attributable costs, these are added as part of
the initial cost of the loan.

Any origination costs incurred by the lender is offset against origination costs received from the borrower.

Illustrative Problem 3
DROPLETS Bank granted a loan to a borrower on January 1, 2020. The interest on the loan is 12% payable annually
starting December 31, 2020. The loan matures in three years on December 31, 2022.

The principal amount of the loan is P5,000,000, the direct origination costs incurred by the bank is P100,000, and the
origination fees received from the borrower amount to P331,800.

Consequently, the effective rate for the loan is 14%.

Requirements:
1. What is the initial carrying value of the loan receivable?
2. Prepare an amortization table for the loan.
3. Prepare the pertinent journal entries for 2020, 2021, and 2022.

Solution
Requirement 1
Face value of loan 5,000,000
Direct origination costs incurred 100,000
Origination fees received (331,800)
Initial carrying amount of loan 4,768,200

Requirement 2
Date Interest Income Interest Received Carrying Value
Jan. 1, 2020     4,768,200
Dec. 31, 2020 667,548 600,000 4,835,748
Dec. 31, 2021 677,005 600,000 4,912,753
Dec. 31, 2022 687,247 600,000 5,000,000

Notes:
 The interest income is computed by multiplying the effective rate by the outstanding balance.
 The interest received is based from the agreement, which is 12% of P5,000,000; or the stated rate multiplied by
the face value of the loan.

Requirement 3
Jan. 1, 2020 Loan Receivable 5,000,000
Cash 5,000,000

Cash 331,800
Unearned Interest Income 331,800
(To recognize the origination fees received)

Unearned Interest Income 100,000

Cash 100,000
(To recognize direct origination costs incurred)
 Dec. 31, 2020 Cash 600,000
Unearned Interest Income 67,548
Interest Income 667,548

Dec. 31, 2021 Cash 600,000

Unearned Interest Income 77,005
Interest Income 677,005

Dec. 31, 2022 Cash 600,000

Unearned Interest Income 87,247
Interest Income 687,247

Cash 5,000,000
Loan Receivable 5,000,000

RECEIVABLE FINANCING

Concept of Receivable Financing

Receivable financing is a process wherein, during instances wherein a company finds itself in tight cash position, the
company uses its receivables to raise funds, either by selling its receivables, or using its receivables as collateral for a
loan.

Forms of Receivable Financing

The common forms of receivable financing are:
1. Pledge of accounts receivable
2. Assignment of accounts receivable
3. Factoring of accounts receivable
4. Discounting of notes receivable

Pledge of Accounts Receivable

When loans are obtained from the bank or any lending institution, the accounts receivable may be pledged as collateral
security for the payment of the loan.

No complex problems are involved in this form of financing. The only journal entry to be made is for the loan; while only
a disclosure is necessary for the pledging of the accounts receivable.

Illustrative Problem 1
On October 1, 2020, SANDSTORM Corporation borrowed P1,000,000 from BPI and issued a promissory note for the
same.

The term of the loan is one year, and bears 12% interest. The entity pledged its accounts receivable of P1,800,000 to
secure the loan.

Requirement: What are the pertinent entries for 2020?

Solution
Oct. 1, 2020 Cash 1,000,000
Notes Payable 1,000,000
 Dec. 31, 2020 Interest Expense 30,000
Interest Payable 30,000

Computation of Interest Expense

Principal amount of payable 1,000,000
Multiply by interest rate 12%
Annual interest 120,000
Multiply by 3/12
Interest from October to December 30,000

*Note: No journal entry is required for the pledging of accounts receivable. A disclosure is required in the notes to the
financial statements, as follows:

“The note payable to BPI matures on September 30, 2021, and is secured by the accounts receivable amounting to
P1,800,000.”

Assignment of Accounts Receivable

Under assignment of accounts receivable, the borrower (called the assignor) transfers rights in some accounts
receivable to a lender (called the assignee) in consideration for a loan.

Actually, assignment is a more formal type of pledging of accounts receivable. Assignment is secured borrowing
evidenced by a financing agreement and a promissory note, both of which the assignor signs.

Pledging is general because it applies to all accounts receivable, while assignment is specific since only specific accounts
receivables are assigned.

For instance, an entity has a total accounts receivable of P5,000,000, coming from five (5) different customers, as
follows:
Customer A 1,800,000
Customer B 1,200,000
Customer C 200,000
Customer D 700,000
Customer E 1,100,000
Total accounts receivable 5,000,000

In pledging, the whole P5,000,000 is used as collateral, while in assignment, the entity may choose which account(s)
is(are) used as collateral. For instance, the entity may choose to assign only the accounts of Customer A and Customer B;
in which case, the total assigned accounts receivable is P3,000,000.

The collections from the assigned accounts receivable are then used to pay for the loan. In effect, the borrower just
simply collected in advance the accounts receivables. However, the amount that can be loaned is normally lower than
the accounts assigned, as protection for the assignee of the risk of uncollectibility. The percentage that can be loaned
may be 70%, 80%, or even 90%, depending on the quality of accounts.

Unlike pledging, assignment requires a journal entry to reclassify the accounts receivable from “unassigned” status to
“assigned”, as follows:
Accounts Receivable – Assigned xxx
Accounts Receivable – Unassigned xxx

Forms of Assignment
Assignment of accounts receivable may either be under:
1. Non-notification basis; or
2. Notification basis

Under non-notification basis, the customer is not notified that his payable to the company (i.e. the entity’s accounts
receivable from the customer) is assigned as collateral for a loan. In that case, since the customer has no idea that his
account is used as collateral, the customer still pays to the assignor (i.e. the entity or debtor). In other words, the
assignor collects the amount, then remits such amount as payment (partial or full) for the loan.

Under notification basis, the customer is notified that his payable to the company is assigned as collateral for a loan. In
that case, the customer pays his payable directly to the assignee (i.e. lender). In other words, the assignee collects the
amount and immediately applies it to the loan. In addition to this, the assignee notifies the assignor regularly about the
collections.

Illustrative Problem 2
(Non-notification Basis)
On October 1, 2020, HURRICANE Company obtained a loan from BDO and assigned P2,000,000 of its P3,000,000
accounts receivable under a non-notification basis.

Proceeds from the loan is 80% of the accounts assigned, and the interest for the loan is 1% per month on the
outstanding balance.

The total collection of P1,200,000 in October was paid to the bank, applied first to the interest for the month, and the
remainder applied to the principal.

In November, P700,000 was collected from the accounts assigned. The interest for the month was paid, and the loan
was fully paid.

Requirements: Prepare the pertinent journal entries for 2020.

Solution
Journal Entry for October:
Oct. 1, 2020 Cash 1,600,000
Loan Payable 1,600,000

Accounts Receivable - Assigned 2,000,000

Accounts Receivable - Unassigned 2,000,000

Oct. 31, 2020 Cash 1,200,000

Accounts Receivable - Assigned 1,200,000

Interest Expense 16,000

Loan Payable 1,184,000
Cash 1,200,000

The proceeds from the loan is computed as follows:

Accounts assigned 2,000,000
Multiply by 80%
Proceeds from loan 1,600,000

The interest for the month is 1% of the outstanding balance, which is computed as follows:
Outstanding balance of loan 1,600,000
 Multiply by monthly interest rate 1%
Interest for October 16,000

At the end of the month, balances for “Accounts Receivable – Assigned” and “Loan Payable” are as follows:
Accounts Receivable - Assigned, Oct. 1, 2020 2,000,000
Collections for October (1,200,000)
Accounts Receivable - Assigned, Oct. 31, 2020 800,000

Loan payable, Oct. 1, 2020 1,600,000

Principal paid in October (1,184,000)
Loan payable, Oct. 31, 2020 416,000

Journal Entry for November:

Nov. 30, 2020 Cash 700,000
Accounts Receivable - Assigned 700,000

Interest Expense 4,160

Loan Payable 416,000
Cash 420,160

Accounts Receivable - Unassigned 100,000

Accounts Receivable - Assigned 100,000

The interest expense for November is computed as follows:

Outstanding balance of loan 416,000
Multiply by monthly interest rate 1%
Interest for November 4,160

Since the loan payable outstanding for November is only P416,000, and the collection for November is P700,000, the
whole outstanding balance of the loan can already be paid in full. There is no need to remit the whole amount of
collection since the outstanding balance is lower.

As such, the loan is effectively fully paid by the end of November, and the balance of the assigned accounts receivable is
as follows:
Accounts Receivable - Assigned, Nov. 1, 2020 800,000
Collections for November (700,000)
Accounts Receivable - Assigned, Nov. 30, 2020 100,000

Since the loan is already fully paid, there is no need for the entity to assign any accounts receivable. With that, the
assigned accounts receivable must be reverted to its unassigned status, hence, the last entry in November.

Illustrative Problem 3
(Notification Basis)
On November 1, 2020, TSUNAMI Corporation assigned 40% of its P10,000,000 accounts receivable for a loan, under a
notification basis. The proceeds is 75% of the amount assigned, and the interest is 1% per month based on the
outstanding balance.

On November 30, the bank sent a notice to TSUNAMI Corporation, indicating that 60% of the accounts assigned
collected, and that the collection was applied first to the interest, and the remainder was applied to the principal.
On December 31, a notice was sent to the entity which states that the remaining accounts assigned were fully collected,
and that part of the collection were applied to the interest and the remainder of the outstanding loan. A check was also
sent, along with the notice, for the excess collection.

Requirement: Prepare the pertinent journal entries for 2020.

Solution
Journal Entry for November:
Nov. 1, 2020 Cash 3,000,000
Loan Payable 3,000,000

Accounts Receivable - Assigned 4,000,000

Accounts Receivable - Unassigned 4,000,000

Nov. 30, 2020 Interest Expense 30,000

Loan Payable 2,370,000
Accounts Receivable - Assigned 2,400,000

The proceeds from the loan is computed as follows:

Accounts receivable 10,000,000
Multiply by percentage of accounts receivable assigned 40%
Accounts receivable assigned 4,000,000
Multiply by percentage of proceeds from loan 75%
Proceeds from loan 3,000,000

The interest expense for the month is simply 1% of P3,000,000. The November 30 balances of both “Accounts
Receivable – Assigned” and “Loan Payable” are as follows:
Accounts receivable - assigned, Nov. 1, 2020 4,000,000
Collection in November (P4,000,000 * 60%) (2,400,000)
Accounts receivable - assigned, Nov. 30, 2020 1,600,000

Loan payable, Nov. 1, 2020 3,000,000

Principal amount paid in November (2,370,000)
Loan payable, Dec. 1, 2020 630,000

Journal Entry for December:

Dec. 31, 2020 Cash 963,700
Interest Expense 6,300
Loan Payable 630,000
Accounts Receivable - Assigned 1,600,000

The interest expense is simply 1% of the outstanding balance of loan for December (i.e. P630,000 * 1%).

The remaining collection of accounts assigned, which is P1,600,000, is way more than the interest expense of P6,300 and
remaining loan payable of P630,000. The excess collection by the bank, amounting to P963,700, is then returned to the
entity.

Factoring of Accounts Receivable

Factoring is a sale of accounts receivable on a without recourse, notification basis.
An agreement is without recourse if the new creditor cannot go after the old creditor to pay for the account in case the
debtor (i.e. customer) defaults. This means that the sale of accounts receivable effectively transfers the ownership to
the buyer.

Factoring may take the form of the following:

1. Casual factoring
2. Factoring as a continuing agreement

Casual Factoring
If an entity finds itself in a critical cash position, it may be forced to factor some or all of its accounts receivable at a
substantial discount to a bank or a finance entity to obtain the much needed cash.

For example, an entity factored for P80,000 its accounts receivable of P100,000, with an allowance for bad debts of
P5,000. The entry to record the transaction is as follows:
Cash 80,000
Allowance for Bad Debts 5,000
Loss on Factoring 15,000
Accounts Receivable 100,000

Factoring as a Continuing Agreement

Factoring may involve a continuing arrangement where a finance entity purchases all of the accounts receivable of a
certain entity. In this setup, before a merchandise is shipped to a customer, the selling entity requests the factor’s credit
approval.

For compensation, typically the factor charges a commission or factoring fee of 5% to 20% for its services of credit
approval, billing, collecting, and assuming uncollectible factored accounts.

Moreover, the factor may withhold a predetermined amount as a protection against customer returns and allowances
and other special adjustments. This amount is known as “factor’s holdback”.

Factor’s holdback is actually a receivable from the factor and is presented under current assets. Final settlement of the
factor’s holdback is made after the factored receivables have been fully collected.

Illustrative Problem 4
SOIL Company factored accounts receivable of P500,000 with credit terms of 2/10, n/30 immediately after shipment of
the goods to the customer.

The factor charged a 5% commission based on the gross amount of the receivables factored.

In addition, the factor withheld 20% of the amount of the receivables factored to cover for sales returns and allowances.

All factored receivables were collected after the return of goods amounting to P50,000.

Requirement: Prepare all pertinent entries.

Solution
Cash 365,000
Sales Discount 10,000
Commission 25,000
Receivable from Factor 100,000
Accounts Receivable 500,000
(To record the factoring of accounts receivable)
The cash received from factoring is computed as follows:
Gross amount 500,000
Sales discount (P500,000 * 2%) (10,000)
Commission (P500,000 * 5%) (25,000)
Factor's holdback (P500,000 * 20%) (100,000)
Cash received from factoring 365,000

Since the accounts receivable was sold immediately after shipment of the goods, it’s as if the accounts receivable was
“collected” within the discount period, thus, the factor is entitled to the cash discount.

Sales Returns and Allowances 50,000

Sales Discount 1,000
Receivable from Factor 49,000
(To record sales return)

Cash 51,000
Receivable from Factor 51,000
(To record collection of holdback)

Since sales discount was also computed for the goods that were returned, its corresponding sales discount must be
reversed. The rest of the factor’s holdback is collected once all factored accounts have been collected by the factor.

Discounting of Notes Receivable (Concept of Discounting)

In a promissory note, the original parties are the maker and the payee.

The maker is the one liable and the payee is the one entitled to the payment at maturity date.

When a note is negotiable, the payee may obtain cash before maturity date by discounting the note at a bank or other
financial institution.

To discount the note, the payee must endorse it. Thus, legally, the payee becomes the endorser and the bank (or
financial institution) becomes the endorsee.

Endorsement is simply the transfer of right to a negotiable instrument by simply signing at the back of the instrument.

It may be with recourse, wherein the endorser shall pay the endorsee if the maker dishonors the note; or without
recourse, wherein the endorser avoids future liability if the maker dishonors the note.

In the absence of any evidence to the contrary, endorsement is assumed to be with recourse.

Process of Discounting
When a payee discounts a note, the payee is essentially collecting the note at a date earlier than the maturity date. It is
expected then that the amount to be collected would be at a discount.

The gain or loss on discounting is simply the difference between the Discounted Value of the note and its Current
Carrying Amount.

To compute for the current carrying amount of the note, we simply add the accrued interest to the principal amount of
the note.
As for the discounted value, the formula is as follows:
Discounted Value = Maturity Value – Discount

The maturity value is the face value of the note plus the full interest that would run for the whole duration of the note’s
term. The discount on the other hand is computed by multiplying the Maturity Value by the Discount Rate used by the
bank.

An alternative way of presenting the formula is as follows:

Discounted Value = Maturity Value – (Maturity Value * Discount Rate)

Illustrative Problem 5
(Without Recourse)
A P1,000,000, 180-day, 12% note dated July 1 was received from a customer and discounted without recourse on August
30 at 15% discount rate.

Requirements:
1. Compute for the maturity value.
2. Compute for the discount.
3. Compute for the discounted value.
4. Compute for the carrying amount of the note.
5. Compute for the gain/loss on discounting.
6. Prepare the pertinent journal entry.

Solution
Requirement 1
Principal 1,000,000
Interest (P1,000,000 * 12% * 180/360) 60,000
Maturity value 1,060,000

Requirement 2
Discount (P1,060,000 * 15% * 120/360) 53,000

The discount period is the remaining term of the note on the date of discounting.
Term of note, in days 180
Days expired from July 1 to August 30 (60)
Discount period - remaining term 120

Requirement 3
Maturity value 1,060,000
Discount (53,000)
Discounted value 1,007,000

Requirement 4
Principal 1,000,000
Accrued interest (P1,000,000 * 12% * 60/360) 20,000
Carrying amount of note receivable 1,020,000

The accrued interest is the interest earned from July 1 to the date of discounting on August 30 (i.e. 60 days).

Requirement 5
 Discounted value 1,007,000
Carrying amount of note receivable (1,020,000)
Gain (loss) on discounting (13,000)

Requirement 6
Cash 1,007,000
Loss on Note Receivable Discounting 13,000
Note Receivable 1,000,000
Interest Income 20,000

Illustrative Problem 6
(With Recourse)
A P1,000,000, 180-day, 12% note dated July 1 was received from a customer and discounted with recourse on August 30
at 15% discount rate.

Requirement: Prepare the pertinent journal entry.

Solution
Cash 1,007,000
Loss on Note Receivable Discounting 13,000
Note Receivable Discounted 1,000,000
Interest Income 20,000

The Note Receivable Discounted account is deducted from total notes receivable when preparing the statement of
financial position, with disclosure of the contingent liability.

If the note is paid by the maker, the journal entry to close the accounts would be:
Note Receivable Discounted 1,000,000
Note Receivable 1,000,000

If the note is dishonored by the maker, the endorser pays the whole maturity value to the endorsee, while the same
maturity value becomes collectible from the maker. The journal entries are as follows:
Note Receivable Discounted 1,000,000
Note Receivable 1,000,000

Accounts Receivable 1,060,000

Cash 1,060,000