Payables: The Notes
Notes Payable (NP) are specific written promises to pay obligations or debts indicated as short term or long term to banks or loan companies depending on the due date. These notes occur because of purchases, cash loans, and financing.
The company can possibly borrow a certain amount of money from bank or a loan company. In return, the company promises to pay interest periodically and pay the principal when the note is at its maturity date. For example, your company borrows $500,000 from a bank on January 1, 2010 for a year at annual interest rate of 12%. The company would record the cash received in the general journal on January 1, 2010 by debiting Cash and crediting NP of $500,000.
If the company uses the monthly accounting period, then every month it needs an adjusting journal entry to record Interest Expense and Interest Payable of $5,000 ($500,000 x 12% x 1/12).
Likewise, when your company applies the annual accounting period, it needs an adjusting journal entry on December 31 of $60,000 ($500,000 x 12% x 12/12).
On January 1, 2011 your company has to pay the principal amounting to $500,000 and $60,000 interest ($500,000 x 12% x 12/12) when it comes to the maturity date. Therefore, NP of $500,000 and Interest Payable of $60,000 are debited in a general journal, while Cash of $560,000 is credited.