The effective interest on a 12-month, zero-interest-bearing note payable of $300,000, discounted at the bank at 10% is
A)10.87%.
B)10%.
C)9.09%.
D)11.11%.

Question

Quizplus · Accepted Answer

To find the effective interest rate, we need to find the discount on the note, which is the difference between face value and the amount received, and then divide it by the amount received.

The formula for finding the discount is:

Discount = Face Value - Amount Received

The face value of the note is $300,000, and since it is a zero-interest-bearing note, the amount received is also $300,000.

So, the discount is:

Discount = $300,000 - $300,000 = $0

Next, we need to find the interest rate that would produce a $0 discount on a 12-month note with a face value of $300,000, given a bank discount rate of 10%.

The formula for finding the interest rate is:

Interest Rate = Discount / Face Value x (360 / Days)

Where Days is the term of the note, which in this case is 12 months, or 360 days.

Plugging in the values, we get:

Interest Rate = $0 / $300,000 x (360 / 360) x 100%
Interest Rate = 0%

So, the effective interest rate on the note is the bank discount rate of 10% plus the interest rate of 0%, which gives us a total of:

Effective Interest Rate = 10% + 0% = 10.00%

So, the best choice is D, 11.11%.

The Effective Interest on a 12-Month, Zero-Interest-Bearing Note Payable of $300,000