Notes With Unrealist Rate

NOTES WITH UNREALISTIC INTEREST RATE
Notes with unrealistic interest rates are those:

a) interest rate appearing on the face of the note is significantly different from the market rate of similar
notes; or
b) the consideration received on account of the note issued has a fair value that is significantly different
from the face value of the note.
• The note and interest to be paid based on the stated rate shall be discounted at the market rate of
interest on the date of issuance.
• If STATED RATE > MARKET RATE OF INTEREST
 Discounted amount / Present value > Face value of the note = PREMIUM ON NOTES PAYABLE
• If STATED RATE < MARKET RATE OF INTEREST
 Discounted amount /Present value < Face value of the note = DISCOUNT ON NOTES PAYABLE
• Some examples of these notes may either be:
1. Short term notes with stated rate more than market rate of interest
2. Short term notes with stated rate is less than market rate of interest
* Long term notes with unrealistic interest rates are accounted for using the same principles applied to
bonds payable that are issued at a discount or at a premium.
ILLUSTRATIVE PROBLEM:
SHORT TERM NOTES WITH STATED RATE MORE THAN MARKET RATE OF INTEREST
On June 30, 2022, ACT Company issued a 1 year, P 4,500,000, 10% promissory note for the purchase of
an equipment. There is no equivalent cash price for this equipment, but the market rate of interest on
similar notes is 8%.
Because the stated rate is significantly different from market rate of interest, the note and interest to be
paid shall be discounted using the market rate of interest which is shown below:
Principal - P4,500,000
Stated Interest ( 4,500,000 x 10% ) 450,000
Total future cash outflow 4,950,000
PV factor at 8% for one period 0.9259…
Present Value of the note 4,583,333.33
The stated rate (10%) is higher than the market rate of interest (8%), with this it will result to a present
value ( 4,583,333.33) which will be higher than the face amount of the note (4,500,000). Because the
present value is higher than the face amount of the note, a premium on notes payable (83,333.33) is going
to be recognized.
Entries in the books of act company:

At the end of each reporting period, the amount of notes payable as well as the interest accrued that is
due within one year shall be classified as current liabilities.
Thus, in the statement of financial position at Dec 31 of 2019 and 2020, the notes payable and interest
payable shall be classified as:
2019 2020
Current Liabilities:
Notes Payable 4,500,000 0
Premium on notes payable 41,666.67 0
Notes Payable, amortized cost 4,541,666.67 0
Interest payable 225,000
Non-current Liabilities:
Notes Payable 0 0
ILLUSTRATIVE PROBLEM:
SHORT TERM NOTES WITH STATED RATE LESS THAN MARKET RATE OF INTEREST
On June 30, 2019, ACT Company issued a 1 year, P 4,500,000, 10% promissory note for the purchase of
an equipment. There is no equivalent cash price for this equipment, but the market rate of interest on
similar notes is 12%.
Because the stated rate is significantly different from market rate of interest, the note and interest to be
paid shall be discounted using the market rate of interest which is shown below:
Principal - P 4,500,000
Stated Interest ( 4,500,000 x 10% ) 450,000
Total future cash outflow 4,950,000
PV factor at 12% for one period 0.8928…
Present Value of the note 4,419,642.86
The stated rate (10%) is less than the market rate of interest (12%), with this it will result to a present
value ( 4,419,642.86) which will be less than the face amount of the note (4,500,000). Because the present
value is less than the face amount of the note, a discount on notes payable (80,357.14) is going to be
recognized.
Entries in the books of act company:

At the end of each reporting period, the amount of notes payable as well as the interest accrued that is
due within one year shall be classified as current liabilities.
Thus, in the statement of financial position at Dec 31 of 2019 and 2020, the notes payable and interest
payable shall be classified as:
2019 2020
Current Liabilities:
Notes Payable 4,500,000 0
Discount on notes payable (40,178.57) 0
Notes Payable, amortized cost 4,459,821.43 0
Interest payable 225,000
Non-current Liabilities:
Notes Payable 0 0
EFFECT OF FREIGHT CHARGES ON ACCOUNTS PAYABLE

ILLUSTRATION
On June 1, 2018, Angelica sold merchandise with a list price of ₱5,000,000 to Ash. Angelica allowed
trade discounts of 20% and 10%. Credit terms were 5/10, n/30 and the sale was made FOB shipping
point. Angelica prepaid ₱200,000 of delivery cost for Ash as an accommodation.
Required: Using the data above, answer the following:

 What amount shall be initially recognized as Accounts Payable assuming Ash records purchases
under the following methods:
- Gross method
- Net method
 How much will be remitted by Ash to Angelica if payments are made under he following independent
situations:
- June 11, 2018
- June 16, 2018
SOLUTION
*can also be computed by 5,000,000 x 80% x 90%
Journal entries on the part of Ash to compute for net remittance (if payment is made on June 11, 2018):
Periodic system (Perpetual system)
Net cash remittance remains the same whether the method is gross or net and whether the system is
perpetual or periodic.
Alternative computation of net remittance if A/P is paid on June 11, 2018:
Journal entries on the part of Ash to compute for net remittance (if payment is made on June 16, 2018):
Periodic system (Perpetual system)
*Purchase discounts lost is not capitalized in inventory. It is presented as finance cost or other expense.
Net cash remittance remain the same whether the method is gross or net and whether the system is
perpetual or periodic.
Alternative computation of net remittance if A/P is paid on June 11, 2018:
ILLUSTRATION:
On December 31, 2018, Bryant Co. has accounts payable of ₱ 4,000,000 before possible adjustment for
the following:
 Goods in transit from a vendor to Bryant on December 31, 2018 with an invoice cost of ₱200,000
purchased FOB shipping point was not yet recorded.
 Goods shipped FOB shipping point from a vendor to Bryant was lost in transit. The invoice cost of
₱80,000 was not yet recorded.
 Goods shipped FOB shipping point from a vendor to Bryant on December 31, 2018 amounting to
₱32,000 was recorded and included in the year-end physical count as “goods in transit.”
 Goods in transit from a vendor to Bryant on December 31, 2018 with an invoice cost of ₱40,000
purchased FOB destination was not yet recorded. The goods were received in January 2019.
 Goods with invoice cost of ₱ 60,000 was recorded and included in the year-end physical count as
“goods in transit.” It was found out that the goods were shipped from a vendor under FOB
destination.
Required: Compute for the adjusted accounts payable on December 31, 2018.
ILLUSTRATION
On December 31, 2018, Michael Co. has accounts payable of ₱2,000,000 before possible adjustment for
the following:
 Checks drawn but not yet released to payees amounted to ₱48,000 and post-dated checks drawn
and released to payees amounted to ₱20,000.
 On December 28, 2018, a vendor authorized Michael to return for full credit goods shipped and
billed at ₱100,000 on December 31, 2018 but the credit memo was received and recorded only on
January 3, 2019.
 Goods shipped FOB shipping point, freight prepaid from a vendor on December 28, 2018 was
recorded at invoice cost at shipment date. The invoice cost is ₱56,000 while freight cost is
₱12,000.
 Goods shipped FOB destination, freight collect were received on December 29, 2018. The
invoice cost of ₱160,000 was credited to accounts payable on date of receipt and the relate freight
of ₱20,000 was debited to an expense account.
Required:
Compute for the adjusted accounts payable on December 31, 2018.

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NOTES WITH UNREALISTIC INTEREST RATE

Notes with unrealistic interest rates are those:

Entries in the books of act company:

Entries in the books of act company:

EFFECT OF FREIGHT CHARGES ON ACCOUNTS PAYABLE

Required: Using the data above, answer the following:

*can also be computed by 5,000,000 x 80% x 90%

Alternative computation of net remittance if A/P is paid on June 11, 2018:

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