Final answer:
The correct journal entry for the issuance of the note by Cove Company is to debit Cash and credit Notes Payable for $7,000. This initial entry reflects the increase in cash as well as the obligation to repay the loan amount. Interest will be recorded as it accrues, not at the time of the loan issuance.
Step-by-step explanation:
To record the issuance of the note on November 1, Year 1, when Cove Company borrowed $7,000 from Shelter Company, the correct journal entry would be to debit Cash and credit Notes Payable for the amount of the loan. The annual interest rate of 7% is not accounted for in the initial entry as interest expense is recorded over time as it accrues.The correct journal entry for Cove Company on November 1, Year 1 is a) Debit Cash $7,000; Credit Notes Payable $7,000.
When a company borrows money through issuing a note payable, it increases its cash balance and also creates a liability for the amount borrowed. The double-entry accounting system requires that every financial transaction has equal and opposite effects in at least two different accounts. In this case, the cash account is increased (debited) showing that the company now has more cash. Concurrently, a liability account, specifically Notes Payable, is increased (credited) indicating that the company has a new obligation to repay the borrowed amount in the future.
Interest is not recorded at the time of borrowing; rather, it is recorded periodically as it accrues. Therefore, at the time of issuing the note, there is no entry related to interest. The entry for interest accrual will take place at each period end (e.g., monthly, quarterly) and eventually at the time the interest is actually paid. Options c) and d) are incorrect as they incorrectly record interest expense and interest payable at the time of the note issuance.