Kevin company has been operating for just 2 years, producing specialty golf
equipment for women golfers. To date, the company has been able to finance
its successful operations with investments from its principal owner,
Michelle Kevin, and cash flows from operations. However, current expansion
plans will require some borrowing to expand the company's production line.
As part of the expansion plan, Kevin will acquire some used
equipment by signing a zero interest bearing note. The note has a maturity
value of $50,000 and matures in 5 years. A reliable fair value measure for
the equipment is not available, given the age and specialty nature of the
equipment. As a result, Kevin's accounting staffs unable to determine an
established exchange price for recording the equipment (nor the interest
rate to be used to record interest expense on the long term note). They
have asked you to conduct some accounting research on this topic.
Access the FASB Codification at http://asc.fasb.rog/home to conduct
research using the Codification Research System to prepare responses to the
following items. Provide Codification references for your responses.
(1) Identify the authoritative literature that provides guidance on the
zero interest bearing note. Use some of the examples to explain how the
standard applies in this setting.
(2) How is present value determined when an established exchange price is
not determinable and a note has no ready market? What is the resulting
interest rate often called?
(3) Where should a discount or premium appear in the financial statements?
What about issue costs?
(1) Identify the authoritative literature that provides guidance on the zero interest bearing note. Use some of the examples to explain how the standard applies in this setting.
This situation is addressed at Subtopic 835-30, "Imputation of Interest." (Topic 835 is "Interest".) Paragraph 835-15-2, "Instruments," states that "The guidance in this Subtopic applies to ... payables that represent ... contractual obligations to pay money on fixed or determinable dates, whether or not there is any stated provision of interest ... Such ... payables are collectively referred to in this Subtopic as notes. Some examples are the following: ... secured and unsecured notes... [and] ... equipment obligations." Because Kevin Company signed a note for the equipment, the ...
This solution cites specific sections of the FASB Codification to discuss the treatment of a non-interest bearing note given in exchange for equipment, including how to present it on the balance sheet.