Question

Recording Purchase of Equipment through Debt and Equity On January 1, 2020, Sidelines Company purchases equipment with an estimated 6-year useful life by making a $5,600 cash payment and issuing a noninterset-bearing note for $19,200 due in two years. The fair value of the the equipment is unknown. An 11% annual interest rate is typical of this transaction. The company uses the effective interest method to amortize interest expense and the straight-line method to estimate depreciation expense. a. Prepare the entry to record the purchase on January 1, 2020. b. Prepare the entry on December 31, 2020, to record (1) interest expense and (2) depreciation expense. c. Indicate the balance sheet presentation related to this transaction as of December 31, 2020. d. Prepare the entry on December 31, 2021, to record (1) interest expense and payment of the note and (2) depreciation expense. e. Assume instead that Sidelines exchanged 400 shares of its own $10 par value common stock along with $5,600 cash for the equipment. At the date of the exchange, the stock was trading on the market at $40 per share. Prepare the entry to record the purchase of equipment. Purchase of Equipment with Debt Purchase of Equipment through Equity Dr. Cr. 0 0 a. Prepare the entry to record the purchase on January 1, 2020. Date Account Name Jan. 1, 2020 Equipment Discount on Note Payable Cash Note Payable 0 0 0 0 0 0 b. Prepare the entry on December 31, 2020, to record (1) interest expense and (2) depreciation expense. Date Account Name Dr. Cr. Dec. 31, 2020 Interest Expense 0 0 Discount on Note Payable 0 To record interest. Dec. 31, 2020 Depreciation Expense 0 0 Accumulated Depreciation 0 0 To record depreciation.

Answer 1

Before making the entry we have to calculate the cost of the assets purchased

Cost of Equipment = Cash price + Present value of notes payable

Cash price = $5600

Present value of notes payable =

Futurevalue (1 + r))"

Future value = 19200

r = 11% = 0.11

n= 2years

PV = 19200 / (1 + 0.11)²

^{PV = 19200 / 1.2321 = $15583}

cost of the asset = 5600+15583 = $21183

a)

	Journal entry to record the purchase
Date	Details	Dr.$	Cr.$
1 Jan 2020	Equipment	21183
	Discount on note payable	3617
	Cash		5600
	Notes payable		19200

b) Interest payable for 2 years = 3617

Interest expense for this year = 3617/2 = $1808.50

Journal entry to record interest expense
Date	Details	Dr.$	Cr.$
31-Dec 2020	Interest Expense	1808.5
	Discount on notes payable		1808.5

Depreciation using SLM = Cost - Scrap Value / Life in years

= (21183 - 0 ) / 6

= $3530.50

Journal entry to record depreciation
Date	Details	Dr.$	Cr.$
31-Dec 2020	Depreciation	3530.5
	Accumulated Depreciation		3530.5

c)

Extracts of Balance sheet
Non-current Asset	$	$
Equipment	21183
Less Accumulated Depreciation	3530.5	17652.5
Liabilities
Notes payable	19200
Less Discount on notes	1808.5	17391.5
		48000

d) Interest payable for 2 years = 3617

Interest expense for this year = 3617/2 = $1808.50

Journal entry to record interest expense
Date	Details	Dr.$	Cr.$
31-Dec 2021	Interest Expense	1808.5
	Discount on notes payable		1808.5

Depreciation using SLM = Cost - Scrap Value / Life in years

= (21183 - 0 ) / 6

= $3530.50

Journal entry to record depreciation
Date	Details	Dr.$	Cr.$
31-Dec 2021	Depreciation	3530.5
	Accumulated Depreciation		3530.5

d)

Common stock issued = 400 x 10 = 4000

Share premium = 400 x (40-10) = 12000

	Journal entry to record the purchase
Date	Details	Dr.$	Cr.$
Jan 1	Equipment	21600
	Cash		5600
	Common Stock		4000
	Share premium		12000