On October 1,2015,United Co.negotiates with its bank to borrow $10,000 cash on a one-year note.The bank charges 5% interest.Interest payments are to be made in two installments,on March 31 and September 30.The principal is to be repaid on September 30,2016,the maturity date.What journal entry needs to be recorded as of March 31,2016?
A) Debit Interest Payable $125, debit Interest Expense $125, and credit Cash $250
B) Debit Interest Expense $250 and credit Cash $250
C) Debit Interest Expense $250 and credit Interest Payable for $250
D) Debit Interest Expense $125 and credit Cash for $125

Question

Quizplus · Accepted Answer

Interest payments are to be made in two installments, on March 31 and September 30. As of March 31, the company needs to record the interest expense incurred for the first six months (October 1 to March 31). The formula for interest expense is Principal x Rate x Time, where Time is the fraction of the year the loan has been outstanding. Therefore, the interest expense for the first six months is $10,000 x 5% x 6/12 = $250. The entry to record the interest payment is to debit Interest Payable for $125, debit Interest Expense for $125, and credit Cash for $250.