CHAPTER 9

RECEIVABLE FINANCING
Discounting of Note Receivable

Concept of Discounting
Accounts receivable discounted refers to outstanding invoices representing money owed to a
creditor which the firm/creditor sells to a buyer for less than face value, typically to quickly raise
capital and improve cash flow.
The buying firm - also referred to as a "factor" - purchases the financial obligation at a
discounted rate providing the selling firm with immediate cash. However, the sale is undertaken
without recourse, meaning that the factor assumes full responsibility for collecting the money
owed in order to recoup its financial layout for the account. The vendor/debtor who owed the
selling firm money per the receivable would direct its payment to the factor who purchased the
financial obligation.

Endorsement
An endorsement is the signature of a payee on a check. This signature is written before the check
is transferred to the payee’s bank. For example, a “for deposit only” endorsement ensures that
the payee’s bank must deposit the funds into the payee’s account. If the endorsement is a blank
endorsement (such as when it is made payable to Cash), the check becomes a negotiable
instrument and can then be used by any other party.
An endorsement guarantees that the signer is the lawful owner of the check, knows of no defect
in the document, has received the check in good faith, and can legally transfer it to another party.
Endorsement may be with recourse which means that the endorser shall pay the endorsee if the
maker dishonors the note.
In legal parlance, this is the secondary liability of the endorser.
In accounting terms, this is the contingent liability of the endorser.
Endorsement may be without recourse which means that the endorsee avoids future liability even
if the maker refuses to lay the endorsee on the date of maturity.
In the absence of any evidence to the contrary, endorsement is assumed to be with recourse.
Terms related to discounting of note
  The discount rate is the annual percentage rate that the financial institution charges for
buying a note and collecting the debt.

 The discount period is the length of time between a note's sale and its due date.

 The discount, which is the fee that the financial institution charges, is found by
multiplying the note's maturity value by the discount rate and the discount period.

Illustration- discounting without recourse

A P1,000,000, 180-day, 12% note dated July 1 was received from a customer and discounted
without recourse on August 30 at 15% discount rate.

Computation
Maturity value which is equal to the principal plus interest.
Principal 1,000,000
Interest (1,000,000 x 15% x 120/360) 60,000
Maturity Value 1.060,000
Observe that the interest must be for the “full term” of the note in determining the maturity
value.
Discount which is equal to the “maturity value times discount rate times discount period”
Discount (1.060,000 x 15% x 120/360) 53,000

The discount period is the remaining term of the note on the date of discounting.
Term of note 180 days
Less: Days expired from July 1 to August 30 60 days
Discount period- remaining term 120 days

In counting, “exclude the first day but include the last day.”

Net proceeds from discounting

Maturity value 1,060,000
Discount ( 53,000)
Net proceeds 1,007,000

Accounting for note receivable discounting

The accounting for note receivable discounting depends on whether the discounting is with or
without recourse.

In the illustration, the discounting is without recourse, meaning, the sale of the note receivable
is absolute and therefore there is no contingent liability.

Journal Entry

Cash 1,007,000
Loss on note receivable discounting 13,000
Note receivable 1,000,000
Interest income 20,000

Illustration- discounting with recourse

A P2,400,000, 6-month, 12% note dated Feb 1 is received from a customer by an entity and
discounted by First Bank on March 1 at 15%.

Principal 2,400,000
Interest 144,000
Maturity Value 2,544,000
Discount ( 159,000)
Net proceeds 2,385,000

Term of note 6 months

Less: Age of note 1 month
Discount period 5 months

Since the term of the note is expressed in “months” the counting is by months regardless of the
number of days in a month.

If the discounting is with recourse, the transaction is accounted for as either of the following:

a. Conditional sale of note receivable recognizing a contingent liability

b. Secured borrowing
Conditional sale

Cash 2,385,000
Loss on note receivable discounting 39,000
Note receivable discounting 2,400,000
Interest Income 24,000

The note receivable discounted account is deducted from the total notes receivable when
preparing the statement of financial position with disclosure of the contingent liability.

Secured borrowing

If the discounting is treated as a secured borrowing, the note receivable is not derecognized but
instead an accounting liability is recorded at an amount equal to the face amount of the note
receivable is discounted.

Journal entry

Cash 2,385,000
Interest expense 39,000
Liability for note receivable discounted 2,400,000
Interest income 24,000

There is no gain or loss on discounting if the note receivable discounting is accounted for as
secured borrowing.

Conclusion

Premises considered; it is believed that the discounting of note receivable with recourse is to be
accounted for as a conditional sale with recognition of a contingent liability.

The main justification is that upon discounting or endorsement of the note receivable, whether
with or without recourse, the transferor or endorser has lost control over the note receivable.

Accordingly, the transferee has complete control over the note receivable because the
transferee has the practical ability to sell the asset to a third party without attaching any
restrictions to the transfer.

Problem 9-1

Bonbon Corp. provided the following transactions:

Jan 1 The entity sold merchandise for P500,000 accepting a note of P500,000 for six
months with interest to be paid at maturity at 12%

March 1 The entity discounted the note without recourse at the local bank at 15%.

July 1 The customer paid the bank in full.

Required: Prepare the necessary journal entries to record the transactions.

Solution 9-1

Jan 1 Notes receivable 500,000

Sales 500,000

March 1 Cash 503,500

Loss on note discounting 6,500
Notes receivable 500,000
Interest income 10,000

July 1 No entry.

Problem 9-2

On August 31,2019, Stable Company discounted with recourse a customer’s note at the bank at
discount rate of 15%.

The note was received from the customer on August 1, 2019, term 90 days, had face value of
P5,000,000 and carried an interest rate of 12%. The customer paid the note to the bank on
October 30,2019, the date of maturity.

Required: Prepare the necessary journal entries related to the discounting of note receivable,
assuming the discounting is accounted for as a secured borrowing.

Solution 9-2

1. Cash 5,021,250
Interest Expense 28,750
Liability for note receivable discounted 5,000,000
Interest income 50,000

2. Liability for note receivable discounted 5,000,000

Notes receivable 5,000,000
Problem 9-3

Elsa Corp. received from a customer a 1 year, P500,000 note bearing annual interest of 8%.

After holding the note for six months, the entity discounted the note without recourse at 10%.

What amount of cash was received from the bank?

a. 513,000
b. 540,000
c. 497,000
d. 524,780

Solution 9-3 Answer a

Principal 500,000
Add: Interest 40,000
Maturity value 540,000
Less: Discount ( 27,000)
Net proceeds 513,000

Problem 9-4

On July 1, 2019, Patuteng sold goods in exchange for P2,000,000, 8-month, non-interest bearing
note receivable.

At the time of the sale, the market rate of interest was 12%. The entity discounted the note at
10% on September 1,2019?

What is the cash received from discounting?

a. 1,900,000
b. 1.780,000
c. 1,990,000
d. 2,090,000

Solution 9-4 Answer a

Principal- maturity value 2,000,000

Less: Discount (2M x 10% x 6/12) 100,000
Net proceeds 1,900,000
Problem 9-5

On July 1, 2019, Khalid sold goods in exchange for P2,000,000, 8-month, non-interest bearing
note receivable.

At the time of the sale, the market rate of interest was 12%. The entity discounted the note at
10% on September 1,2019?

What is the loss on note receivable discounting?

a. 100,000
b. 0
c. 76,000
d. 75,000

Solution 9-5 Answer a

Net proceeds 1,900,000

Carrying amount of note receivable ( 2,000,000)
Loss on note receivable discounting (100,000)

Note: The carrying amount of the note receivable is equal to the principal because the note is
noninterest-bearing.

Problem 9-6

Post Malone Company accepted from a customer P1,000,000 face amount, 6-month, 8% note
dated April 1, 2019.

On the same date, the enity discounted the note without recourse at a 10% discount rate.

What amount of cash was received from the discounting?

a. 900,000
b. 990,000
c. 972,000
d. 988,000

Solution 9-6 Answer d

Principal 1,000,000
Add: Interest 40,000
Maturity value 1,040,000
Less: Discount 52,000
Net proceeds 988,000
Problem 9-7

DJ Khalid Company accepted from a customer P1,000,000 face amount, 6-month, 8% note dated
April 1, 2019.

On the same date, the enity discounted the note without recourse at a 10% discount rate.

What is the loss on note receivable discounting?

a. 50,000
b. 40,000
c. 52,000
d. 12,000

Solution 9-7 Answer d

Net proceeds 988,000

Carrying amount of note receivable (1,000,000)
Loss on note receivable discounting ( 12,000)

Problem 9-8

Selena Gomez, On June 30,2019, discounted at the bank a customer P6,000,000, 6-month, 10%
note receivable dated April 30, 2019.

The bank discounted the note at 12% without recourse.

What is the amount received from the note receivable discounting?

a. 5,500,000
b. 6,048,000
c. 5,760,000
d. 4,900,000

Solution 9-8 Answer b

Principal 6,000,000
Add: Interest 300,000
Maturity Value 6,300,000
Less: Discount ( 252,000)
Net Proceeds 6,048,000

Problem 9-9

Ed Sheeran, On June 30,2019, discounted at the bank a customer P6,000,000, 6-month, 10% note
receivable dated April 30, 2019.

The bank discounted the note at 12% without recourse.

What is the loss on note receivable discounting?

a. 252,000
b. 52,000
c. 152,000
d. 46,000

Solution 9-9 Answer b

Principal 6,000,000
Accrued Interest 100,000
Carrying amount of note receivable 6,100,000

Net Proceeds 6,048,000

Carrying amount 6,100,000
Loss on note receivable discounting ( 52,000)

Problem 9-10

On July 1, 2019, Jukaykay Company sold equipment to Maddie Corp. for P1,000,000. Jukaykay
accepted a 10% note receivable for the entire sales price.

This note is payable in two equal installments of P500,000 plus accrued interest on December
31,2019 and December 31, 2020.

On July 1, 2020 , the entity discounted the note at a bank at an interest rate of 12%.

What is the amount received from the discounting of note receivable?

a. 517,000
b. 484,000
c. 566,000
d. 144,000
Solution 9-10 Answer a

Principal 500,000
Add: Interest 50,000
Maturity value 550,000
Less: Discount 33,000
Net proceeds 517,000

Problem 9-11
Tik-tok Corp. accepted from a customer a P4,000,000, 90-day, 12% interest-bearing note dated
August 31, 2019.

On September 30, 2019 the entity discounted the note with recourse at the Clean State Bank at
15%.

Neverthless, the proceeds were not received until October 1, 2019. The discounting with
recourse is accounted for as a conditional sale with recognition of a contingent liability.

What is the amount received from the discounting of note receivable?

a. 4,017,000
b. 4,120,000
c. 4,404,000
d. 4,890,000

Solution 9-11 Answer a

Principal 4,000,000
Interest 120,000
Maturity value 4,120,000
Discount 103,000
Net proceeds 4,017,000

Problem 9-12
Tik-tok Corp. accepted from a customer a P4,000,000, 90-day, 12% interest-bearing note dated
August 31, 2019.
On September 30, 2019 the entity discounted the note with recourse at the Clean State Bank at
15%.

Neverthless, the proceeds were not received until October 1, 2019. The discounting with
recourse is accounted for as a conditional sale with recognition of a contingent liability.

What is the loss on note receivable discounting?

a. 40,000
b. 43,000
c. 20,000
d. 23,000

Solution 9-12 Answer d

Principal 4,000,000
Accrued Interest 120,000
Carrying amount of note receivable 4,120,000

Net Proceeds 4,017,000

Carrying amount (4,040,000)
Loss on note receivable discounting ( 23,000)

Problem 9-13

On November 1, 2019, Davis Company discounted with recourse at 10% a 1 year, non-interest
bearing, P4,000,000 note receivable maturing on January 31,2020. The discounting of the note
receivable is accounted for as a conditional sale with recognition of a contingent liability.

What amount of contingent liability for this note must be disclosed in the financial statements for
the year ended December 31, 2019?

a. 4,400,000
b. 4,000,000
c. 3,600,000
d. 0

Solution 9-13 Answer b

The contingent liability is equal to the principal or face amount of the note receivable
discounted.

Problem 9-14
On April 1, 2019, Maria Corp discounted with recourse a 9-month, 10% note dated January 1,
2019 with face of P6,000,00.

The bank discount rate is 12%. The discounting transaction is accounted for as a conditional sale
with recognition of contingent liability.

October 1, 2019 the maker dishonors the note receivable, the entity paid the bank the maturity
value of the note plus protest fee of P50,000.

On December 31,2019 the entity collected the dishonored note in full plus 12% annual interest of
the total amount due.

What amount is received from the note discounting on April 1, 2019?

a. 7,800,000
b. 6,063,000
c. 5,890,000
d. 4,500,000

Solution 9-14 Answer b

Principal 6,000,000
Interest 450,000
Maturity value 6,450,000
Discount ( 387,000)
Net Proceeds 6,063,000

Problem 9-15

On April 1, 2019, Leonora Corp discounted with recourse a 9-month, 10% note dated January 1,
2019 with face of P6,000,00.

The bank discount rate is 12%. The discounting transaction is accounted for as a conditional sale
with recognition of contingent liability.

October 1, 2019 the maker dishonors the note receivable, the entity paid the bank the maturity
value of the note plus protest fee of P50,000.

On December 31,2019 the entity collected the dishonored note in full plus 12% annual interest of
the total amount due.
What amount should be recognized as loss on note discounting?
a. 450,000
b. 387,000
c. 87,000
d. 63,000

Solution 9-15 Answer c

Principal 6,000,000
Accrued Interest receivable 150,000
Carrying amount of note receivable 6,150,000

Net Proceeds 6,063,000

Carrying amount (6,150,000)
Loss on discounting ( 87,000)

Problem 9-16

On April 1, 2019, Theresa Corp discounted with recourse a 9-month, 10% note dated January 1,
2019 with face of P6,000,00.

The bank discount rate is 12%. The discounting transaction is accounted for as a conditional sale
with recognition of contingent liability.

October 1, 2019 the maker dishonors the note receivable, the entity paid the bank the maturity
value of the note plus protest fee of P50,000.

On December 31,2019 the entity collected the dishonored note in full plus 12% annual interest of
the total amount due.

What is the total amount collected from the customer on December 31, 2019?
a. 6,450,000
b. 6,695,000
c. 7,000,000
d. 5,600,000

Solution 9-16 Answer b

Maturity Value 6,450,000
Protest fee 50,000
Total amount due 6, 500,000
Interest 195,000
Amount collected from customer 6,695,000

Problem 9-17

On April 1, 2019, Summit Corp discounted with recourse a 9-month, 10% note dated January 1,
2019 with face of P6,000,00.

The bank discount rate is 12%. The discounting transaction is accounted for as a conditional sale
with recognition of contingent liability.

October 1, 2019 the maker dishonors the note receivable, the entity paid the bank the maturity
value of the note plus protest fee of P50,000.

On December 31,2019 the entity collected the dishonored note in full plus 12% annual interest of
the total amount due.

If the discounting is a secured borrowing, what is included in the journal entry to record the
transaction?
a. Debit loss on discounting P87,000
b. Debit interest expense P87,000
c. Credit liability for note discounted P6,063,000
d. Credit interest income P63,000

Solution 9-17 Answer b

Cash 6,063,000
Interest expense 87,000
Liability for note discounted 6,000,000
Interest income 150,000

Problem 9-18
On August 1, 2019, Yondu Corp. P5,000,000 one-year, noninterest-bearing note due July
31,2020 was discounted at RCBC Bank at 10.8%. The entity used the straight-line method of
amortizing discount.

What amount was received from discounting on August 1, 2019?

a. 5,108,000
b. 4,460,000
c. 4,730,000
d. 5,520,000

Solution 9-18 Answer b

Note payable 5,000,000

Discount for 1 year (5M x 10.8%) ( 540,000)
Net proceeds 4,460,000

Problem 9-19

On August 1, 2019, Yondu Corp. P5,000,000 one-year, noninterest-bearing note due July
31,2020 was discounted at RCBC Bank at 10.8%. The entity used the straight-line method of
amortizing discount.

What is the carrying amount of the note payable on December 31, 2019?
a. 5,000,000
b. 4,685,000
c. 5,200,000
d. 5,675,000

Solution 9-19 Answer b

Note payable 5,000,000

Discount on note payable ( 315,000)
Carrying amount 4,685,000

Problem 9-20
On August 31, 2019, Groot Corp discounted with recourse a note at the bank at discount rate of
15%. The note was received from the customer on August 1, 2019, is for 90 days, has a face
amount of P5,000,000, and carries an interest rate of 12%.

The discounting transaction is accounted for as secured borrowing.

The customer paid the note to the bank on October 30,2019, the date of maturity.

What amount should recognized as interest expense on August 31,2019?

a. 45,000
b. 43,210
c. 47,800
d. 28,750

Solution 9-20 Answer d

Net proceeds 5,021,250

Carrying amount of note receivable (5,050,000)
Interest expense ( 28,750)