Question

Lynbrook Automotive sells a variety of merchandise to retail stores on account, but it insists that any customer who fails to pay an invoice when due must replace it with an interest-bearing note. The company adjusts and closes its accounts at December 31.

On November 1, 2019 Lynbrook converted an Accounts Receivable balance from Scan House in the amount of $5,000 to a 120 day 8% Note Receivable.

Required: A. Prepare journal entries (in general journal form) to record: (1) the creation of the note on November 1, 2019; (2) the adjustment for interest on December 31, 2019; (3) the collection of principal and interest when it matures in 2020, including the maturity date. (Lynbrook makes adjusting entries only at year-end.) B. Explain why Lynbrook insists that any customer who fails to pay an invoice when due must replace it with an interest-bearing note.

Answer 1

A.

No.	Date	General Journal	Debit	Credit
1	Nov. 1, 2019	Note receivable	5000
		Accounts receivable		5000
		(To record note accepted against account)
2	Dec. 31, 2019	Interest receivable ($5000 x 8% x 60/360)	66.67
		Interest revenue		66.67
		(To record interest accrued on note receivable)
3	29 Feb. 2020	Cash	5133.34
		Note receivable		5000
		Interest receivable		66.67
		Interest revenue ($5000 x 8% x 60/360)		66.67
		(To record collection of principal and interest on maturity)

Note: A year is assumed to have 360 days for the purpose of interest computation in the absence of any specific instructions regarding the same. If 365 days is used, the interest will be computed as $5000 x 8% x 60/365 = $65.75. Kindly let me know in the comments section in case you require the journal entries using 365 days.

Also amounts are rounded off to the nearest cent. Kindly round off as required.

B. Lynbrook would insist on an interest bearing note due to the fact that it would receive interest over the amount outstanding and due to it. Also the interest may encourage the customer to pay early so as to reduce it's interest liability.