Note Payable

A promissory note is an unconditional promise in writing made by one person to another, signed by the
maker, engaging to pay on demand or at a fixed or determinable future time a sum certain in money to
order or to bearer.

Initial measurement of note payable (PFRS 9 par 5.1.1)

a. Fair value minus transaction costs if not designated at fair value through profit or loss
b. Fair value if irrevocably designated at fair value through profit or loss. The transaction costs are
expensed

Fair Value = Present Value

Present Value – is the discounted amount of the future cash flows in settling the note payable using the
market rate of interest

Subsequent measurement of note payable

1. At amortized cost using the effective interest method

2. At fair value through profit or loss if the note payable is designated irrevocably as measured at
fair value through profit or loss

Problem no. 1

On July 1, 2020, Justine Company borrowed P1,000,000 on a 10% five-year interest-bearing note. On
December 31, 2020, the fair value of the note is determined to be P975,000.

The entity irrevocably elected the fair value option in measuring the note payable.

Questions:

1. What is the interest expense for 2020?

2. What is the carrying amount of the note payable on December 31, 2020?
3. What amount should be reported as gain from change in fair value of the note payable for
2020?

Answers:

1. 10% x 1,000,000 x 6/12 = 50,000 for 6 months from July 1 to Dec 31, 2020 under the fair value
option any premium or discount on note payable will not have an effect on interest expense.
2. 975,000 if fair value option is elected the note is presented at present value every year end with
changes in fair reported in profit or loss.
Note payable 25,000
Gain on note payable (1,000,000-975,000) 25,000
3. 25,000
Problem no. 2

On January 1, 2020, Jonathan Company borrowed P500,000 8% noninterest-bearing note due in four
years. The present value of the note on the date of issuance was 367,500. The entity elected
irrevocably the fair value option in measuring note payable. On December 31, 2020, the fair value of the
note is P408,150.

Questions:

1. What is the journal entry on January 1, 2020?

2. What is the carrying amount of the note payable on December 31, 2020?
3. What amount should be reported as interest expense for 2020?
4. What amount of gain from change in fair value of the note payable should be reported for
2020?
5. At what amount should the discount on note payable be presented on December 31, 2020?
6. What is the entry to recognize change in fair value at December 31, 2020?

Answers:

1. Cash 500,000
Note Payable 367,500
Gain on Note payable 132,500
2. 408,150
3. 500,000 x 8% = 40,000
4. 500,000 – 408,150 = 91,850
5. Zero
6. (408,150 -367,500)
Loss on Note payable 40,650
Note Payable 40,650

Answer this one

Problem no. 3

On January 1, 2020, Lizelle Company signed a P1,000,000 noninterest-bearing note due in three years at
a discount rate of 10%. The entity irrevocably elected the fair value option in measuring the note
payable.

On December 31, 2020, the risk factors indicated that the rate of interest applicable to the borrowing
was 9%. The present value factors at 10% and 9% are as follows:

PV factor 10%, 3 periods .751 PV factor 9%, 3 periods .772

PV factor 10%, 2 periods .826 PV factor 9%, 2 periods .842
PV factor 10%, 1 period .909 PV factor 9%, 1 period .917

Questions:
1. What is the journal entry on January 1, 2020?
2. What is the initial carrying amount of the note payable on January 1, 2020?
3. What is the carrying amount of the note payable on December 31, 2020?
 4. What amount of gain or loss from change in fair value of the note payable should be reported
for 2020?
5. At what amount should the discount on note payable be presented on December 31, 2020?
6. What is the entry to recognize change in fair value at December 31, 2020?

Note issued solely for cash

Present value = Cash received or proceeds

Interest bearing note issued for property

Present value = purchase price of the property

Noninterest bearing note issued for property

Present value = cash price of the property

Fair value option of measuring note payable

a. The change in fair value attributable to the credit risk is recognized in other comprehensive
income
b. The remaining amount of the change in fair value is recognized in profit or loss.

Problem no. 4

On January 1, 2020, West Company acquired a tract of land for P1,000,000. The entity paid P100,000
down and signed a two-year promissory note for the balance plus 10% interest compounded annually.
The note matures on January 1, 2022.

Required:

Prepare the journal entries to record:

1. Purchase of the land on Jan 1, 2020

2. Accrued interest on December 31, 2020
3. Accrued interest on December 31, 2021
4. Full payment of the note on January 1, 2022

Answer:

1. Land 1,000,000
Cash 100,000
Note payable 900,000
2. Interest expense(900,000 x 10%) 90,000
Accrued interest payable 90,000
3. Interest expense(900,000+90,000)x10% 99,000
Accrued interest payable 99,000
4. Notes payable 900,000
Accrued interest payable 189,000
Cash 1,089,000
Problem no. 5

On January 1, 2020, North Company acquired a machinery with cash price of P750,000 for P1,000,000.

The entity paid P200,000 and signed a noninterest bearing promissory note for the balance which is
payable in 4 equal installments every December 31 of each year

Required:

Prepare the journal entries for 2020

Answer:

Jan 1 Machinery 750,000

Discount on note payable 250,000
Cash 200,000
Note payable 800,000
Dec 31 Note payable 200,000
Cash 200,000
Interest expense 100,000
Discount on note payable 100,000

Problem no. 6
On January 1, 2020, South Company acquired a building for P5,000,000. The entity paid P500,000 down
and signed a noninterest bearing note for the balance which is payable in 3 equal annual installments
every December 31 of each year.
The prevailing rate for a note of this type is 12%. The present value of an ordinary annuity of 1 for three
periods is 2.4018.
Required:
Prepare journal entries to record purchase of building on January 1, 2020, first installment payment on
December 31, 2020 and interest expense for 2020.

Answer:

Jan 1 Building (500,000 + 3,602,700) 4,102,700

Discount on note payable 897,300
Cash 500,000
Note payable 4,500,000
Dec 31 Note payable 1,500,000
Cash 1,500,000
Interest expense(12%x3,602,700) 432,324
Discount on Note payable 432,324

Answer this one

Problem no. 7
On January 1, 2020, Manila Company acquired a tract of land for P5,250,000. The entity paid
P1,250,000 down and signed a noninterest bearing note for the balance which is due on January 1,
2023.
There was no established exchange price for the land and the note had no ready market. The prevailing
interest rate for this type of note was 12%. The present value of 1 at 12% for 3 periods is .7118.
Required:
Prepare journal entries to record the purchase of land on January 1, 2020, interest expense for 2016 and
full payment of the note on January 1, 2023.

Multiple choice

Problem no. 1

At year-end, Roth Company issued a P1,000,000 face amount note payable to Wake Company in
exchange for services rendered to Roth.
The note, made at usual trade terms, is due in nine months and bears interest, payable at maturity, at
the annual rate of 3%.
The market interest rate is 8%. The compound interest factor of 1 due in nine months at 8% is .944.
At what amount should the note payable be reported at year-end?
a. 1,030,000
b. 1,000,000
c. 965,200
d. 944,000
Answer: B

Problem no. 2
On December 31, 2019, Boston Company purchased a machine from Helix Company in exchange for a
non-interest bearing note requiring eight payments of P200,000.
The first payment was made on December 31, 2019 and the others are due annually on December 31.
At date of issuance, the prevailing rate of interest for this type of note was 11%. The PV of an ordinary
annuity of 1 at 11% for 8 periods is 5.146, and the PV of an annuity of 1 in advance at 11% for 8 periods
is 5.712.
1. On December 31, 2019, what is the carrying amount of the note payable?
a. 1,142,400
b. 1,029,200
c. 1,046,200
 d. 942,400
Answer: D

2. What amount should be reported as interest expense for 2020?

a. 125,664
b. 103,664
c. 176,000
d. 154,000
Answer: B

Problem no. 3
At the beginning of current year, Pares Company borrowed P3,600,000 from a major customer
evidenced by a noninterest bearing note due in three years. The entity agreed to supply the customer’s
inventory needs for the loan period at lower than market price.
At the 12% imputed interest rate for this type of loan, the present value of the note is P2,550,000 at the
beginning of current year.
What amount of interest expense should be reported for current year?
a. 432,000
b. 350,000
c. 306,000
d. 0

Problem no. 4
On March 1, 2019, Fine Company borrowed P1,000,000 and signed a 2-year note bearing interest at 12%
per annum compounded annually. Interest is payable in full at maturity on February 28, 2021.
What amount should be reported as accrued interest payable on December 31, 2020?
a. 100,000
b. 120,000
c. 232,000
d. 240,000
Answer: C

Problem no. 5
On September 30, 2019, World Company borrowed P1,000,000 on a 9% note payable. The entity paid
the first of four quarterly payments of P264,200 when due on December 31, 2019.
1. What amount should be reported as interest expense for 2019?
a. 90,000
b. 22,500
c. 67,500
d. 30,000
Answer: B
2. On December 31, 2019, what is the carrying amount of the note payable?
a. 758,300
b. 750,000
c. 825,800
d. 735,800
Answer: A
Problem no. 6
On January 1, 2019, Solemn Company sold land to Glory Company. There was no established market
price for the land.
Glory gave Solemn a P2,400,000 noninterest bearing note payable in three equal annual installments of
P800,000 with the first payment due December 31, 2019.
The note has no ready market. The prevailing rate of interest for a note of this type is 10%.
The present value of a P2,400,000 note payable in three equal annual installments of P800,000 at a 10%
rate of interest is P1,989,600.
1. What amount should be reported as interest expense of 2019?
a. 240,000
b. 198,960
c. 410,400
d. 205,200
Answer: B

2. What is the carrying amount of the note payable on December 31, 2019?
a. 1,989,600
b. 2,126,400
c. 1,388,560
d. 2,400,000
Answer: C

Problem no. 7
Jason Company offered a contest in which the winner would receive P1,000,000 payable over twenty
years.
On December 31, 2019, Jason Company announced the winner of the contest and signed a note payable
to the winner for P1,000,000 payable in P50,000 installments every January 31.
On December 31, 2019, Jason Company purchased an annuity for P418,250 to provide the P950,000
prize remaining after the first P50,000 installment which was paid on January 31, 2020.
1. On December 31, 2019, what amount should be reported as note payable-contest winner, net of
current portion?
a. 368,250
b. 418,250
c. 900,000
d. 950,000
2. What amount should be reported as note payable-contest winner, net of current portion?
a. 500,000
b. 418,250
c. 468,250
d. 0