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 $700,000, three-year note that specified 6% 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 10% 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 table below to determine the price of the equipment. 1-b. Prepare the journal entry on January 1, 2021, for Amber Mining and Milling's purchase of 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.

Answer 1

Solution

Amber Mining and Milling Inc

1. Determine -

1-a. price of equipment:

Price of equipment = present value of note + present value of interests

Annual interest payment = 700,000 x 6% = $42,000

amount	PV factor at 10%	Present Value
$700,000	0.7513	$525,910
$42,000	2.4869	$104,450
Price of equipment		$630,360

1-b. Journal entry

Date	Account Titles and Explanation	Ref.No.	Debit	Credit
Jan 1, 2021	Equipment		$630,360
	Discount on Notes Payable		$69,640
	Notes Payable			$700,000
	(To record purchase of equipment by issue of notes payable)

2. Amortization schedule:

Period	Interest Payable	Interest Expense	Discount Amortization	Carrying Value
				$630,360
Dec 31, 2021	$42,000	$63,036	$21,036	$651,396
Dec 31, 2022	$42,000	$65,140	$23,140	$674,536
Dec 31, 2023	$42,000	$67,454	$25,454	$699,990

The difference of $10 is due to plus or minus in calculation error.

3. Journal entries:

Date	Account Titles and Explanation	Ref.No.	Debit	Credit
Dec 31, 20+AH834:AI84721	Interest Expense		$63,036
	Discount on Notes Payable		$21,036
	Cash			$42,000
	(To record first interest payment)
Dec 31, 2022	Interest Expense		$65,140
	Discount on Notes Payable		$23,140
	Cash			$42,000
	(To record second interest payment)
Dec 31, 2023	Interest Expense		$67,454
	Discount on Notes Payable		$25,454
	Cash			$42,000
	(To record third interest payment)
Dec 31, 2023	Notes Payable		$700,000
	Cash			$700,000
	(To record payment on notes payable)