Question

Prince Charming Company borrows $100,000 from the bank on April 1, 2015. This loan is in the form of a note that is due in one year (March 31, 2016). The annual interest rate is 10%, and interest is paid on September 30, 2015 and on March 31, 2016 (due date). The fiscal year end for Prince Charming is 12/31. What balance should be recorded for interest expense at March 31, 2016 assuming the earlier adjusting journal entries have been recorded correctly?

This is the correct work:

9/30 5,000 Interest expense Cash 5,000 2,500 12/31 Interest expense 2,500 Interest payable 3/31 Interest expense Interest es 2,500 Interest payable 2,500 Cash 2 500 5.000

I don't understand since it says "interest is paid on September 30, 2015 and on March 31, 2016" why the entries wouldn't be this:

9/30 Interest expense $5000

Cash $5000

3/31   Interest expense $5000

Cash $5000

Please explain all steps and reasoning!

Answer 1

	The loan of $100,000 taken from the Bank on April 1,2015 and the Interest is to be paid
	semi-annually on Sept 30 and March 31.
	So the Interest expense for each period will be:$100,000*10%*6/12 =$5,000
	Now the issue here is that the Fiscal year ends on Dec 31 for each year.
	So the interest of $5,000 which is supposed to be paid on sept 30,2015 will be paid on Sept 30,2015
	Now for the interest which is supposed to be paid March 31,2016 has not been accrued fully till Dec 31,2015
	In other words since the books are supposed to be closed on Dec.31, 2015 hence the interest payable for
	3 months amounting to $2,500 will be shown as liability in the form of Interest payable.
	And once the interest due date comes on March 31,2016 the full interest expense of $5,000 will be paid
	on March 31,2016 and the rest of $2,500 will be recognised as Interest expense and the Interest payable
	shown as a liability in the books will be cancelled by passing a journal entry:
	Dr. Interest expense - $2,500
	Dr. Interest payable - $2,500
	Cr.Cash                 -         $5,000