Unit 2: accounting for receivables introduction

2.2 Recognizing Notes Receivable

To illustrate the basic entry for notes receivable assuming that ABC Company accepted a Br. 1000, 2-month, 12% promissory note dated May 1 from XYZ Company. Assuming that the note was written to settle an open account, the entry for the receipt of the note is:

May 1. Note Receivable 1000
Accounts Receivable – xyz co. 1000
(To record acceptance of xyz company note)

Observe that the note receivable is recorded at its face value. No interest revenue is reported when the note is accepted because the revenue recognition principle does not recognize revenue until earned. Interest is earned (accrued) as time passes.

If a note is exchanged for cash, the entry is a debit to Notes Receivable and credit to cash in the amount of the loan.

2.3 Valuing Notes Receivable

Like Accounts receivable, short – term notes receivable are reported at their Cash (net) realizable value. The notes receivable allowance account is Allowance for Doubtful Accounts. Valuing short-term notes receivable is the same as valuing accounts receivable. The computation and estimations involved in determine cash realizable value and in recording the proper amount of bad debt expense and related allowance are similar.

Long-term notes receivable, however, pose additional estimation problems. As an example, we need only look at the problems a number of large U.S. banks are having in collecting their receivables. Loans to less-developed countries are particularly worries some. Developing countries need loans for development but often find repayment difficult. Determining the proper allowance is understandably difficult for these types of long-term receivables.

2.4 Disposing of Notes Receivable

Note may be held to their maturity date, at which time the face value plus accrued interest is due. In some situations the maker of the note defaults and appropriate adjustment must be made. In other situations, similar to accounts receivable, the holder of the note speeds up the conversion to cash by selling the receivables.