Question

We borrowed $10,000 from the bank in late October. As of December 31 we owe the bank $200 of interest that we will pay when we pay off the principal amount on January 7. By January 7 we end up owing another $50 of interest; on that date, we pay the bank the entire amount we owe. Give the journal entry we need to record on the day that we pay back the loan.

Answer 1

On the day of repaying the loan, the journal entry would be:

Cash $10,250

Interest Expense $250

Loan Payable $10,000

Step-by-step explanation:

To compute the interest accrued as of December 31, we consider the initial borrowing in late October. The interest for November and December (2 months) at an annual rate of $200 is calculated as follows:

`\[ \text{Interest\_December} = (\$10,000 * 0.05 * 2)/(12) = \$200 \]`

This amount is credited to the Interest Expense account, recognizing the cost incurred by the end of December.

By January 7, an additional month has passed, and an extra $50 interest has accrued:

`\[ \text{Interest\_January} = (\$10,000 * 0.05 * 1)/(12) = \$50 \]`

This is also debited to the Interest Expense account.

Now, summing the interest accrued by December 31 and January 7:

`\[ \text{Total\_Interest} = \text{Interest\_December} + \text{Interest\_January} = \$200 + \$50 = \$250 \]`

This total interest of $250 is debited to Interest Expense.

The principal repayment is straightforward. The initial borrowed amount of $10,000 is credited to the Loan Payable account, reducing the liability.

The cash payment is the total amount paid, which includes both principal and interest. Thus, the cash account is credited with the total amount of $10,250.

In summary, the detailed calculations ensure accurate recognition of interest expenses and principal repayment, reflecting the financial transactions appropriately in the journal entries.