Question

On January 1, 2017, MM Co. borrows \(340,000 cash from a bank and in return signs an 8% installment note for five annual payments of \)85,155 each, with the first payment due one year after the note is signed.

1. Prepare the journal entry to record issuance of the note.

2. For the first $85,155 annual payment at December 31, 2017, what amount goes toward interest expense? What amount goes toward principal reduction of the note?

Short answer

1. Cash is debited by $340,000, and 8% notes payable is credited by $340,000.

2. Interest expense is $27,200

The reduction in the principle amount is $57,955

Step-by-step solution

Meaning of Notes Payable

Note payable is a loan from a bank or financial institution against security or a personal guarantee. It is a long-term liability of a business entity.

Journal entry for the issuance of the note

Date	Account and explanation	Debit ($)	Credit ($)
Jan 01, 2017	Cash	340,000
	8% Note payable		340,000
	(To record notes payable issued)

Journal entry to record the first instalment payment

Date	Account and explanation	Debit ($)	Credit ($)
Dec 31, 2017	Interest Expense	27,200
	Note payable	57,955
	Cash		85,155
	(To recordfirst installment payment)

Working note:

An amortization table for the long-term note payable follows.

Annual Period Ending	Beginning Balance (a)	Interest Expense b= (a)* 8%	Total Instalment amount (c)	Principle portion in Instalment (d = c-b)	Ending Balance (e = d-a)
Dec31 2017	$340,000	$27,200	$85,155	$57,955	$282,045
Dec31 2018	$282,045	$22,564	$85,155	$62,591	$219,454
Dec 31 2019	$219,454	$17,556	$85,155	$67,599	$151,855
Dec 31 2020	$151,855	$12,148	$85,155	$73,006	$78,848
Dec 31 2021	$78,848	$6,307	$85,155	$78,848	-