On December 31, 2003, the Linens Bank enters into a debt restructuring agreement
ID: 2417691 • Letter: O
Question
On December 31, 2003, the Linens Bank enters into a debt restructuring agreement with Vault Company, which is now experiencing financial trouble. The bank agrees to restructure a 10%, issued at par, $1,000,000 note receivable by the following modifications:
1. Reducing the principal obligation to $800,000
2. Extending the maturity date to 12/31/05
3. Reducing the interest rate to 6%
Prepare all entries from 12-31-03 to 12-31-05 for both parties (debtor and creditor), and explain the interest rate assumed by the debtor and creditor after the restructuring. Show all your work.
Explanation / Answer
journal entries in the books of debtors
1- 10% notes payable debit 1000000
credit capital reduction 200000
credit 6% notes payable 800000
2- Interest expense debit 48000
to cash 48000
2nd year2005
interest expense debit 48000
credit cash 48000
2005
6% notes payable debit 800000
to cash 800000
in the books of creditors
1- 6% notes receivables debit 800000
loss on reduction in debt restructuring debit 200000
credit 10% notes receivables 1000000
2- cash debit 48000
to interest income 48000
2nd year entries:
dec 31 2005
1- cash account debit 48000
credit interest expense 48000
2- cash debit 800000
8% bills receivables 800000
earlier interest rate was 10% 2hich now reduced to the a new level of risk i.e. 6% per annum
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