Hello and welcome everyone to our lesson today which we are going to switch to long term liabilities. Mainly we'll discuss in this lesson, notes payable as an example of long-term libels. Before we get started, we need to refresh our understanding of what long term liabilities are. Long term liabilities represent future sacrifices of economic benefits, that are expected to be fulfilled beyond the year from the balance sheet date, or obviously the operating cycle, whichever is longer. So that operating cycle has to be added in all the definitions somewhere, because the one year is not very restricted. Anyway, let's get started on talking about notes payable, and to distinguish first of all, we are going to distinguish between one note is called or referred to as interest bearing note and the other is non-interest bearing note. And as we will understand as we will proceed, we will find out that the non-interest bearing note the definition or the term, is a little bit deceiving because it's actually interest bearing as we will explain in details as we go through this lesson. Let's get started with the interest bearing note, the interest bearing note require the payment of a specified face amount at maturity, in addition to the periodic interest payments that are calculated by multiplying a stated interest rate of the note, by the face value of that note. To visualize this, the node you can see on the timeline that I have in front of you on the screen, which shows the issuance date which has the face value of the note at the issue date, and then at maturity date there will be what the value of the note. Obviously in an interest bearing note, the issue price will equal the face value of the note, and as you can see across that there are the periodic payments. So, periodic means whether the node is semi annual or annual, whatever the period that's why I refer to it as you can see in the figure, periodic payment, whatever that period is, it can be as I said, six months or a year or whatever or a quarter even. So at the issuance, the issue price will be equal to the face value of the note, and the issuance will be recorded simply as you can see in the entry in front of you a debit to a cash and a credit to notes payable, pretty easy and straightforward, journal entry. On the periodic interest every period, quarter, semi annual, or annual the interest, the periodic interest payment will be equal to the note face value, times the stated interest rate of that note. The interest will be simply also recorded, as you can see the Journal entry, a debit to an interest expense, and a credit to interest payable or cash, if it was paid cash in a quarter or an without accruing that interest payable means that it's being accrued, cash means that it's being paid on that date. Okay, let's switch now to non-interest bearing note the non-interest bearing note as I said, actually does bear interest as well. But the interest is deducted meaning discounted from the face value of the note to determine the cash equivalent of the note at the issuance date. We will also visualize that as you can see now here, there is no periodic payments, the non interest bearing note does not pay any interest periodic interest, but it will bear interest and I'll show you that later. And obviously the issuance date, the face value is going to be different than the maturity date face value, because at the issuance date it's going to be the face value, the issue price, will be equal to the face value, minus the discount. The discount is an amount that will compensate for not paying periodic interest payments similar to the interest bearing note. The issuance will be a little bit different here because the issue price, equals the face value minus the discount, so the journal entry will have two accounts on the debit side as you can see in front of you, cash and a discount on the notes payable, while the credit will be then notes payable. So now, the face value of the note is what is going to be credit to the notes payable, but the amount of the issue of the note will be less by the amount of the discount. In this case, the periodic interest payment will be the carrying value, we refer to the face value minus the discount, that's the carrying value of the note. And that carrying value of the node actually will change across periods as we go, because every period I will amortize portion of that discount, to compensate as you're going to see in the journal entry. So basically the carrying value of the node period after period, will actually increase so that it reaches the face value at maturity. The interest will be recorded as you can see now the credit debit is still interest expense, but the credit is a discount on notes payable and that's what I refer to as, each periodic each period im amortizing portion of the discount, and that's why it is credited to the discount on notes payable. In summary, as I said before, both notes bear periodic interest from an accounting accrual basis. The interest bearing note recognizes the periodic interest expense as accrued expense in the form of interest payable, while the non-interest bearing note recognizes the periodic interest expense as an amortization of the discount on the note. Hope that this will clear your understanding of the main differences between interest bearing note versus non interest bearing note, thank you very much.
