Question

The creditors of Chester Company agree to accept promissory notes for the amount of its indebtedness with a proviso that two-thirds of the annual profits must be applied to their liquidation. How should these notes be reported on the balance sheet of the issuing company? Give a reason for your answer

Short answer

Promissory notes must bereflected in the balance sheet as a long-term liability.

Step-by-step solution

Definition of Creditors

All the individuals or companies from which the business entity has borrowed money or purchased inventory are creditors. These are reported as liabilities of the business entity.

Reporting Promissory Notes

The business entity must report the promissory note as long-term liabilities in the company’s balance sheet. The balance sheet must also include the term related to a promissory note. At the end of each year after calculation of the profit. The business entity must transfer the promissory note balance from long-term liability to current liability, equal to two-thirds of profit generated. Such transfer must be followed until the business entity fully liquidates its promissory note.