Question

Amber Mining and Milling, Inc., contracted with Truax Corporation to have constructed a custom-made lathe. The machine was completed and ready for use on January 1, 2021. Amber paid for the lathe by issuing a $720,000, three-year note that specified 4% interest, payable annually on December 31 of each year. The cash market price of the lathe was unknown. It was determined by comparison with similar transactions that 20% was a reasonable rate of interest. (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.)

Required:
1-a. Complete the below table to prepare the company's journal entry.
1-b. Prepare the journal entry on January 1, 2021, for Truax Corporation’s sale of the lathe. Assume Truax spent $520,000 to construct the lathe.
2. Prepare an amortization schedule for the three-year term of the note.
3. Prepare the journal entries to record (a) interest for each of the three years and (b) payment of the note at maturity for Truax.

Answer 1

1

(a)

time = 3 years

i = 20%

interest = 4%

interest amount = 720000 * 4% which is $28800.

pv factor at 3 years 20% is 0.57870

pvifa factor for 3 years at 20% is 2.10648

interest of 28800 is to be paid for 3 years hence annuity factor (PVIFA) will be taken .

present value of interest payment = 28800*2.10648

present value of interest payment = 60666.624 wwhich is approximately 60667

present value of principal payment = 720000*0.57870

present value of principal payment = 416664

hence the present value of note is 416664 + 60667

present value of note = 477331

1

(b)

journal entry onn 1 January 2021 for Traux corporation will be

Particular	Debit	Credit
note receivable (Dr.)	720000
cost of goods sold (Dr.)	520000
discount on note receivable		242669
Sales (Cr.)		477331
inventory (Cr.)		520000
(Being machinery sold )

(2)

amortization schedule

	cash payment	effective interest	increase in balance	carrying value
				477331
1	28800	95466	66666	543997
2	28800	108799	79999	623996
3	28800	67204	96004	720000
Total	86400	271469	242669

effective interest rate = previous carrying value * 20%

increase in balance = cash payment - effective interest

carrying value = previous carrying value + imcrease in balance

(3)

(a)

interest for 3 years (assuming interest is paid every year)

Date	Particular	Debit	Credit
31 Dec 2021	cash	28800
	discount on note receivable	66666
	interest revenue		95466
	(to record first interest received)
31 Dec 2022	cash	28800
	discount on note receivable	79999
	interest revenue		108799
	(to record second interest received)
31 Dec 2023	cash	28800
	discount on note receivable	96004
	interest revenue		124804
	(to record third interest received)

(b)

Date	Particular	Debit	Credit
31 Dec 2023	Cash	720000
	Note receivable		720000
	(to record payment of note on maturity)

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