NOTES RECEIVABLE

Reference: Intermediate Accounting Volume 1 2020 Edition

by Conrado Valix, Jose F. Peralta and Christian Aris M. Valix
Chapter 6: Notes Receivable

After studying this chapter, one should be able to:

o To understand the concept and nature of notes receivable
o To know the initial and subsequent measurement of notes
receivable
o To know the accounting for interest – bearing note
receivable
o To know the accounting for non-interest bearing note
receivable
Definition
Notes receivable are claims supported by formal promises to pay
usually in the form of notes.
Negotiable 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 determinable future time a sum certain in money to
order or to bearer.
Notes receivable represents only claims arising from sale of
merchandise or service in the ordinary course of business.
Dishonored notes
A promissory note matures and is not paid.
Theoretically, dishonored notes receivable should
be removed from the notes receivable account and
transferred to accounts receivable.
The amount debited to accounts receivable should
include the face amount, interest and other charges.
Initial Measurement of Notes Receivable
Conceptually, notes receivable shall be measured initially at
present value.
The present value is the sum of all future cash flows
discounted using the prevailing market rate of interest for similar
notes.
The prevailing market rate if interest is actually the effective
interest rate.
Short-term notes receivable shall be measured at face
value.
INITIAL MEASUREMENT

Long Term Notes

In General Long Term Notes (Non Interest
(Conceptual) Short Term Notes (Interest Bearing) Bearing)

NR should be measured at Face Value upon

at Face Value at Present Value (PV)
initially at Present Value (PV) issuance

Actually, all notes

**sum of all future implicitly contain interest.
Why not PV? It is Interest bearing since it is
cashflows discounted using It was called a non
immaterial to compute explicitly stated in the
the effective interest rate interest simply because
the PV contract the % of interest
(prevailing market rate) interest is
(unlike interest bearing)
SUBSEQUENT MEASUREMENT

Long Term Notes

Long Term Notes (Non Interest
Short Term Notes (Interest Bearing) Bearing)
at AMORTIZED COST
using the effective
interest method
at AMORTIZED COST
at Face Value using the effective PV + Amortization of the
interest method discount or Face Value
minus unamortized
unearned interest
income
Interest-bearing notes receivable
The initial measurement of long – term notes will depend on
whether the notes are interest-bearing or non-interest bearing.

Interest-bearing long term notes are measured at face value

which is actually the present value upon issuance.
Time Value of Money Concept and
Compounding of Interest

Time Value of Money

1990s Today 2030

Present Value Future Value
P1,000
Purchasing Power Inflation
Simple Interest vs. Compounding of
Interest
Principal Amount P10,000
Interest Rate 10% per year
Time period 2 years
Simple Interest Compounded Interest
First year 10k x 10% = P1,000 First year 10k x 10% = P1,000
2nd year 10k x 10% = 1,000 2nd year 11k x 10% = 1,100
Total = P2,000 = P 2,100
Present value and Future value
When you were young, your grandmother gave
you a certain amount of money but you don’t
remember how much it was. You decided to put
this amount to the bank for 7 years with 6%
interest rate and become P100 after 7 years.
Question, how much was the amount given to you
at the beginning?
 Present Value 6% interest rate for 7 years Future Value
(PV) (FV)

PV (???) PV = FV x P 100
P66.51

PV = FV x (1 + r)
=100 x 0.665
= P66.51
Explaining the Concept of PV and FV

Present Value – What today’s value of tomorrow’s cash before

the interest rate is applied in the money?

Future Value – What is tomorrow’s value of today’s cash after

we applied in the interest rate in the money?
 Present Value 6% interest rate for 7 years Future Value
(PV) (FV)

PV (???) PV = FV x P 100
P66.51

FV= PV x (1 + r)
=66.51 x 1.5036
= P100
1, PV of 1 = one time payment
2. PV of Ordinary Annuity of 1 = installment payment
3. PV of Annuity Due of 1 = installment payment (payment there’s at the beginning of
the contract)
Noninterest-bearing notes receivable
Non-interest bearing long term notes are measured at present
value which is discounted value of the future cash flows using
the effective interest rate.
Actually, the term “noninterest-bearing” is a misnomer
because all notes implicitly contain interest.
It is simply a case of the “interest being included in the face
amount” rather than being stated as a separate rate.
Subsequent measurement

Subsequent to initial recognition, long term notes

receivable shall be measured at amortized cost using the
effective interest method.
The amortized cost measurement is in accordance
with PFRS 9, paragraph 5.2.1.
Meaning of Amortized Cost
The amortized cost is the amount at which the note receivable is
measured initially:
a. Minus principal repayment

b. Plus or minus cumulative amortization of any difference

between the initial carrying amount and the principal maturity amount

c. Minus reduction for impairment or uncollectibility

For long-term noninterest-bearing notes receivable, the amortized

cost is the present value plus amortization of the discount, or the face
value minus the unamortized unearned interest income.