Question

The Eldorado Corporation's controller prepares adjusting entries only at the end of the fiscal year. The following adjusting entries were prepared on December 31, 2018:

Debit Credit
Interest expense. 7,200
Interest payable 7,200
Rent expense. 35,000
Prepaid rent 35,000
Interest receivable. 500
Interest revenue 500
Additional information:
1. The company borrowed $120,000 on March 31, 2018. Principal and interest are due on March 31, 2019. This note is the company's only interest-bearing debt.
2. Rent for the year on the company's office space is $60,000. The rent is paid in advance.
3. On October 31, 2018, Eldorado lent money to a customer. The customer signed a note with principal and interest at 6% due in one year.
Determine the following:
What is the interest rate on the company's note payable?
The 2018 rent payment was made at the beginning of which month?
How much did Eldorado lend its customer on October 31?

Answer 1

The interest rate on the company's note payable is 8%. The 2018 rent payment was made at the beginning of January 2018. Eldorado lent its customer $50,000 on October 31.

Step-by-step explanation:

To determine the interest rate on Eldorado Corporation's note payable, we can use the interest expense recorded for the period from March 31, 2018, to December 31, 2018. Since the interest expense is $7,200 and the period covers 9 months (April to December), we can calculate the annual interest expense and consequently the interest rate. Dividing $7,200 by 9 months and then multiplying by 12 months to annualize the interest gives us an annual interest expense of $9,600. Given that the principal amount is $120,000, the interest rate (I) can be found using I = Interest Expense / Principal = $9,600 / $120,000, which results in an interest rate of 8%.

The 2018 rent payment for the company's office space was made in advance for the year. Knowing that the rent expense adjusted is for $35,000 and the total rent for the year is $60,000, it suggests that the initial prepaid rent amount covered the remaining months after the adjustment, which is a total of $60,000 - $35,000 = $25,000. Since the monthly rent is $60,000 / 12 months = $5,000, the $25,000 covers 5 months (January to May), indicating that the rent payment was made at the beginning of January 2018.

To calculate how much Eldorado lent its customer on October 31, we can use the interest receivable at the year-end. The interest receivable is $500 for 2 months (November and December), indicating an annual interest amount of $500 / 2 months * 12 months = $3,000. With an interest rate of 6%, the principal amount can be calculated as Principal = Annual Interest / Interest Rate = $3,000 / 0.06, resulting in a loan amount of $50,000.