Notes Receivable Calculations and Journal Entries

In our last article (found here), we reviewed how Notes Receivable are measured. In this article we dive into an example of how to do a Notes Receivable calculation, using both IFRS and ASPE methods.

Initially: Notes Receivable are recorded at Fair Value, where Fair Value is the present value of the future cash flows, discounted using the market interest rate.

Subsequently: Notes Receivable are measured at their amortized cost.

When the stated rate is not the same as the market rate, or the note is non-interest bearing, the note is recorded at either a premium or a discount.

Vocabulary Reminder: If a Notes Receivable is issued at a premium, this means that the note is issued by the entity at more than the what the debtor will pay us back in the future (the Face Value). In other words - we lend the debtor more money than they will pay us back in the future, usually in return for a higher interest rate payment throughout the term. If a Notes Receivable is issued at a discount, then the note is issued at a lower value than the Face Value, meaning that we lend the debtor less upfront, than they owe us at the end of the term. This is usually balanced by lower interest rate payments throughout the term.

IFRS: Requires premium or discount to be amortized into income using the effective interest method

ASPE: Premium or discount can be amortized into income using either effective interest method or straight-line method.

Your company receives a $10,000, 4 year, 2% annual interest note, paid semi-annually. The market rate of interest is 8%.

Vocabulary: “Company receives” or “customer enters into” means that someone has taken a loan from the company, and the company earns interest. The company literally “receives” a Notes Receivable, which means it is going to lend money and eventually be owed that money back.

Determine the Present Value (PV) of Future Cash Flows, to record the Note Receivable at its Fair Value. Use a financial calculator to compute the Present Value of the note.

Since PV < Face Value, the note is at a discount.

Initial Journal Entry to record the Notes Receivable:

Note that IFRS requires that entities use this method.

Create an amortization schedule. If it is at a premium, then the opening balance > closing balance in the amortization schedule, and the Note will eventually decrease to the Face Value. If it is at a discount, then the opening balance < closing balance in the amortization schedule, and the Note value will eventually increase to the Face Value.

* Remember that because this is paid semi-annually, we are looking at the interest rate per payment period

**Rounding difference

Journal Entries for the Remaining Periods:

End of Payment Period 1:

End of Payment Period 2:

Etc…

End of Payment Period 8:

When the Note is fully repaid (should be repaid at the end of Period 8):

Note that IFRS does not allow entities to use this method. This method can, however, be used by entities reporting under ASPE.

The straight-line method is a simplified version, where we amortize the discount on a straight-line schedule throughout the term.

Discount Calculation:

Discount = FV - PV = $10,000 - $7,980 = $2,020

Amortization amount per period: divide by total period: $2,020/ 8 = $252.5/period

Journal Entries for the Remaining Periods:

End of Payment Period 1:

End of Payment Period 2:

Etc…

End of Payment Period 8:

When the Note is fully repaid (should be repaid at the end of Period 8):

TIPS:

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