hey all,
can you please help me out:
On January 1, Year 1, Gearty Corporation loans Olinto Fabrix, Inc. $200,000 with a 10% simple interest note payable in ten years. Interest on the note is payable annually and the principal is due at the end of the term. On January 1, Year 3, Olinto has yet to pay any interest and approaches Gearty in the hope of renegotiating the terms. Gearty agrees, forgives the interest on the note accrued to date, and reduces the interest to 8 percent.
Choice “d” is correct. Gearty would record a valuation allowance as follows:
Debit (Dr) Credit (Cr)
Note receivable $ 240,000
Bad debt expense 61,240
Note receivable $ 200,000
Accrued interest receivable 40,000
Valuation allowance 61,240
WORK SHOWN:
Loan amount $ 200,000
Present value of $1 at 10% for 8 years .467
Present value of principal $ 93,400
Interest payments 200,000
Reduced rate 8%
Annual interest 16,000
Present value of an annuity, 10%, 8 years 5.335
Present value of interest $ 85,360
Present value of renegotiated note (93,400 + 85,360) $ 178,760
Book value of note 240,000
Impairment of loan $ 61,240
My question: Why are they still using the 10% rate when calculating the PV principal and Interest? They are using 8 years, but the new terms if 8% so why are they using the 10%?
Interest payments are using 8%, but to calculate NPV they used the 10% rate.
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