Question

On September 1, Year 1 Western Company borrowed $36,000 cash. The one-year note carried a 5% rate of interest. The amount of interest expense on the income statement and the amount of cash flow from operating activities shown on Western’s December 31, Year 1 financial statements would be

a. $600 interest expense and $1,800 cash outflow from operating activities.
b. $1,200 interest expense and $1,800 cash outflow from operating activities.
c. $600 interest expense and zero cash outflow from operating activities.
d. $1,200 interest expense and zero cash outflow from operating activities.

Answer 1

c. $600 interest expense and zero cash outflow from operating activities.

Step-by-step explanation:

The computation of the interest expense is shown below:

= Borrowed amount × rate of interest × number of months ÷ total number of months in a year

= $36,000 × 5% × 4 months ÷ 12 months

= $600

This four months are calculated from September 1 to December 31

In the income statement, the interest expense is recorded for $600 but in the operating activity there is no effect