Notes Payable Definition, Journal Entries, and Examples
The payee of a note is the entity that loans the money to the maker and must be repaid. The articles and research support materials available on this site are educational and are not intended to be investment or tax advice. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. At the end of the note’s term, all of these interest charges have been recognized, and so the balance in this discount account becomes zero.
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- The payee is the party who receives payment under the terms of the note, and the maker is the party obligated to send funds to the payee.
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Note Payable Example Journal Entry
Generally, there are no special problems to solve when accounting for these notes. As interest accrues, it is periodically recorded and eventually paid. The first journal is to record the principal amount income statement of the note payable.
It can also provide information about changes in terms that might affect an accounting entry. When creating accounting entries, people decide whether or not additional information is relevant or important, and can opt to add an accounting note to communicate that information as needed. This can create situations where there is necessary information but no convenient place to put it. In these cases, an accounting note is used to provide the information in a way that will be understood by readers.
Another use of an accounting note can be in an accounting system used by a large company where many different people have access to records and need to be able to communicate information. Notes can be used to track interaction with specific customers or companies and to provide background information that may be useful for people in other departments. Taking out a loan directly from the bank can be done relatively easily, but there are fees for this (and interest rates). Issuing notes payable is not as easy, but it does give the organization some flexibility.
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What is a discount on a note payable?
In both cases, the final month’s interest expense, $50, is recognized. The concepts related to these notes can easily be applied to other forms of notes payable. The debit is to cash as the note payable was issued in respect of new borrowings. The face of the note payable or promissory note should show the following information. The payee is the party who receives payment under the terms of the note, and the maker is the party obligated to send funds to the payee. The amount of payment to be made, as listed in the terms of the note, is the principal.
For example, if the borrower needs more money than originally intended, they can issue multiple notes payable. One problem with issuing notes payable is that it gives the company more debt than they can handle, and this typically leads to bankruptcy. Issuing too many notes payable will also harm the organization’s credit rating. Another problem with issuing a note payable is it increases the organization’s fixed expenses, and this leads to increased difficulty of planning for future expenditures. Other information supplied along with the financial statements may be a product of the accounting standards being followed by the business.
Notes payable are written agreements (promissory notes) in which one party agrees to pay the other party a certain amount of cash. The lender may require restrictive covenants as part of the note payable agreement, such as not paying dividends to investors while any part of the loan is still unpaid. If a covenant is breached, the lender has the right to call the loan, though it may waive the breach and continue to accept periodic debt payments from the borrower. The agreement may also require collateral, such as a company-owned building, or a guarantee by either an individual or another entity.
If accounting notes are present, it is important to review them when examining accounting records as they may provide important information. Accounting notes can provide contextualizing information that makes accounting entries easier to understand. It may explain or expand upon a piece of information so the reader understands why it is included and how the accountant arrived at a given number.
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Each year, the unamortized discount is reduced by the interest expense for the year. This treatment ensures that the interest element is accounted for separately from the cost of the asset. The interest portion is 12% of the note’s carrying value at the beginning of each year.
John signs the note and agrees to pay Michelle $100,000 six months later (January 1 through June 30). Additionally, John also agrees to pay Michelle a 15% interest rate every 2 months. The proper classification of a note payable is of interest from an analyst’s perspective, to see if notes are coming due in the near future; this could indicate an impending liquidity problem. For example, the maker owes $200,000 to the payee at a 10% interest rate, and pays no interest during the first year. Financial statements filed quarterly/annually by the companies with their local statutory body such as the SEC in the USA are accompanied by the notes to accounts. The maker of a note is the entity that creates and initiates the note to borrow money from the payee.