Question

(Notes Receivable with Realistic Interest Rate) On October 1, 2017, Arden Farm Equipment Company sold a pecan-harvesting machine to Valco Brothers Farm, Inc. In lieu of a cash payment Valco Brothers Farm gave Arden a 2-year, $120,000, 8% note (a realistic rate of interest for a note of this type). The note required interest to be paid annually on October 1. Arden’s financial statements are prepared on a calendar-year basis.

Instructions

Assuming Valco Brothers Farm fulfills all the terms of the note, prepare the necessary journal entries for Arden Farm Equipment Company for the entire term of the note.

Short answer

The interest of$2,400 for three months from October to December will accrue for each period.

Step-by-step solution

Definition of Note Receivable

A written promise made by a customer to repay the amount of money after a specified period along with interest charged in respect of the credit purchase made is known as note receivable

Journal Entries for Note

Date	Accounts and Explanation	Debit $	Credit $
1 Oct 2017	Note receivable	$120,000
	Sales revenue		$120,000
31 Dec 2017	Interest receivable	$2,400
	Interest revenue		$2,400
1 Oct 2018	Cash	$9,600
	Interest receivable		$2,400
	Interest revenue		$7,200
31 Dec 2018	Interest receivable	$2,400
	Interest revenue		$2,400
1 Oct 2019	Cash	$129,600
	Interest receivable		$2,400
	Interest revenue $\left(120,000\times 8\%\times \frac{9}{12}\right)$		$7,200
	Note receivable		$120,000

Working note:

A. Accrued interest for 31 Dec each year.$$\begin{gathered} \mathrm{Interest}=\mathrm{Principal}\times \mathrm{Interest}\mathrm{rate}\times \frac{\mathrm{Number}\mathrm{of}\mathrm{Months}}{12} \\ =\$120,000\times 8\%\times \frac{3}{12} \\ =\$2,400 \end{gathered}$$

B. Interest earned for 1 Oct each year.

$$\begin{gathered} \mathrm{Interest}=\mathrm{Principal}\times \mathrm{Rate}\mathrm{of}\mathrm{interest}\times \frac{\mathrm{Number}\mathrm{of}\mathrm{months}}{12} \\ =\$120,000\times 8\%\times \frac{9}{12} \\ =\$7,200 \end{gathered}$$