Accounting for a Non-Interest Bearing Note
Accounting for a non-interest-bearing note involves recording a promissory note received or issued without an explicit interest rate. While no interest is stated, it does not mean that there is no implicit interest involved. The difference between the face value of the note and its discounted present value is considered as the implied interest, which is recognized over the term of the note.
When a business issues or receives a non-interest-bearing note, the present value of the note must be calculated using a market interest rate. The present value of the note is recorded as the principal amount, and the difference between the face value and the present value is recognized as interest income (for the receiver) or interest expense (for the issuer) over the term of the note.
Example for an Accounting for a Non-Interest Bearing Note
Suppose Company A borrows $10,000 from Company B for one year. The market interest rate for similar loans is 5%. However, the promissory note does not mention any interest rate. Here’s how to account for the non-interest-bearing note from both companies’ perspectives:
Step 1:
Calculate the present value of the note using the market interest rate: Present value = Face value / (1 + Market interest rate) Present value = $10,000 / (1 + 0.05) = $9,523.81
Step 2:
Record the initial transaction:
For Company A (borrower):
| Date | Account | Debit | Credit |
|---|---|---|---|
| 03-23-2023 | Cash | $9,523.81 | |
| Notes Payable | $9,523.81 |
For Company B (lender):
| Date | Account | Debit | Credit |
|---|---|---|---|
| 03-23-2023 | Notes Receivable | $9,523.81 | |
| Cash | $9,523.81 |
Step 3:
Recognize the implied interest over the term of the note:
For Company A (borrower):
| Date | Account | Debit | Credit |
|---|---|---|---|
| 03-23-2023 | Interest Expense | $476.19 | |
| Notes Payable | $476.19 |
For Company B (lender):
| Date | Account | Debit | Credit |
|---|---|---|---|
| 03-23-2023 | Notes Receivable | $476.19 | |
| Interest Income | $476.19 |
Step 4:
Record the repayment of the note at the end of the term:
For Company A (borrower):
| Date | Account | Debit | Credit |
|---|---|---|---|
| 03-23-2023 | Notes Payable | $10,000 | |
| Cash | $10,000 |
For Company B (lender):
| Date | Account | Debit | Credit |
|---|---|---|---|
| 03-23-2023 | Cash | $10,000 | |
| Notes Receivable | $10,000 |
This accounting treatment ensures that the non-interest-bearing note is recorded at its present value and that the implied interest is recognized over the term of the note.
